Posts Tagged ‘investment’

09.29.2017_Trump_and_bull

In a 1999 interview with Fortune, legendary investor Warren Buffett coined the term “economic moats” to sum up the main pillar of his investing strategy. He described it like this:

The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors.

The idea of an economic moat, with Buffett’s endorsement, has picked up steam since the article. Morningstar, an investment research firm, created an index that tracks companies with a wide economic moat in order to see if Buffett’s theory holds water. In 2012, VanEck, a money manager, created an exchange-traded fund called “MOAT” that would track Morning Star’s economic moat index.

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And it works! Since 2012, VenEck’s Wide MOAT fund has beaten the Standard & Poor’s Index: it’s up 125.68 percent compared to the S&P’s 108 percent.

But what’s true for the individual investor does not hold for the U.S. economy as a whole. That’s because corporations with a Buffet moat around them are only managing, for a time, to capture portions of the surplus produced and appropriated elsewhere. It’s a rent—thus, of course, justifying the use of a feudal concept to characterize an investment strategy within contemporary capitalism.

Of course, the U.S. economy is not feudal (at least, for the most part). Instead, it is based on capitalism. And what’s important about American capitalism is the gap between workers’ wages and the total value they produce, which is profits—a portion of which is distributed in the form of dividends.

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As is clear from the chart above, over the course of the past decade both corporate profits (the red line) and dividends to shareholders (the green line) have rebounded spectacularly while the share of national income going to labor (the blue line) has fallen precipitously and remained very low. That’s the case during the so-called recovery from the crash of 2007-08 as well as the 15 or so years prior to the crash.

So, the comparison between feudalism and capitalism is perhaps even more apt than Buffett and other investors are willing to admit: in both cases, the surplus labor pumped out of the direct producers—serfs then, wage-laborers now—is appropriated—in the form of feudal rents or capitalist profits—and is then distributed to still others—to other religious and secular lords or other capitalists and equity owners.

And the result is exactly the same: a growing gap between the small group of gangsters at the top and everyone else.

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Back in June, Neil Irwin wrote that he couldn’t find enough synonyms for “good”  to adequately describe the jobs numbers.

I have the opposite problem. I’ve tried every word I could come up with—including “lopsided,” “highly skewed,” and “grotesquely unequal“—to describe how “bad” this recovery has been, especially for workers.

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Maybe readers can come up with better adjectives to illustrate the sorry plight of Americans workers since the Second Great Depression began—something that captures, for example, the precipitous decline in the labor share during the past decade (from 103.3 in the first quarter of 2008 to 97.1 in the first quarter of 2018, with 2009 equal to 100).*

But perhaps there’s a different approach. Just run the numbers and report the results. That’s what the Directorate for Employment, Labour, and Social Affairs seem to have done in compiling the latest OECD Employment Outlook 2018. Here’s their summary:

For the first time since the onset of the global financial crisis in 2008, there are more people with a job in the OECD area than before the crisis. Unemployment rates are below, or close to, pre-crisis levels in almost all countries. . .

Yet, wage growth is still missing in action. . .

Even more worrisome, this unprecedented wage stagnation is not evenly distributed across workers. Real labour incomes of the top 1% of income earners have increased much faster than those of median full-time workers in recent years, reinforcing a long-standing trend. This, in turn, is contributing to a growing dissatisfaction by many about the nature, if not the strength, of the recovery: while jobs are finally back, only some fortunate few at the top are also enjoying improvements in earnings and job quality.

Exactly! The number of jobs has gone up and unemployment rates have fallen—and workers are still being left behind. That’s because wage growth “is still missing in action.”

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Workers’ wages have been stagnant for the past decade across the 36 countries that make up the Organisation for Economic Cooperation and Development. But the problem has been particularly acute in the United States, where the “low-income rate” is high (only surpassed by two countries, Greece and Spain) and “income inequality” even worse (following only Israel).

The causes are clear: workers suffer when many of the new jobs they’re forced to have the freedom to take are on the low end of the wage scale, unemployed and at-risk workers are getting very little support from the government, and employed workers are impeded by a weak collective-bargaining system.

That’s exactly what we’ve seen in the United State ever since the crisis broke out—which has continued during the entire recovery.

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But we also have to look at the opposite pole: the growth of corporate profits is both a condition and consequence of the stagnation of workers’ wages. Employers have been able to use those profits not to increase worker pay (except for CEOs and other corporate executives whose pay is actually a distribution of those profits), but to purchase new technologies and take advantage of national and global patterns of production and trade to keep both unemployed and employed workers in a precarious position.

That precarity, even as employment has expanded, serves to keep wages low—and profits growing.

What we’re seeing then, especially in the United States, is a self-reinforcing cycle of high profits, low wages, and even higher profits.

That’s why the labor share of business income has been falling throughout the so-called recovery. And why, in the end, Eric Levitz was forced to find the right words:

American Workers Are Getting Ripped Off

 

*And, of course, even longer: from 114 in 1960 or 112 in 1970 or even 110.2 in 2001.

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There was a bit of an awkward moment on Tuesday when, during the Wall Street Journal’s interview with Gary Cohn, Director of the National Economic Council and chief economic advisor to Donald Trump, John Bussey asked the assembled CEOs if they plan to increase their company’s capital investments if the GOP’s tax bill passes.

“Why aren’t the other hands up?” Gary Cohn asks.

Well, let me see if I can answer that.

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First, corporate profits (the blue line in the chart above) are already at record highs. Second, credit is very cheap and readily available.* Thus, corporate investment (the red line) is greater than profits and also at record highs.

In other words, if the people who run those corporations believed that investing in new factories or equipment that might create more jobs would result in higher profits, they would already be doing it.

That’s why most of the CEOs didn’t raise their hands. They know full well that most of the gains from the proposed corporate tax cuts will just be distributed in the form of higher CEO salaries, increased dividends to stockowners, and more mergers and acquisitions.**

And that certainly won’t create new jobs—which is why most people, when they figure out the real nature of the proposed tax cuts, will be raising their hands in unison with a very different kind of gesture.

 

*As Laurence D. Fink, the founder of BlackRock, the largest money manager in the world overseeing some $6 trillion, said at The New York Times DealBook conference last week,

If you’d asked me a year ago how would you feel, I would’ve told you I’ve got concerns in this region and that region. . .A year-and-a-half ago we were worried about China. A year ago I would’ve said I’m very worried about the eurozone stability. . .And then the other surprise is how robust the U.S. economy is—how strong corporate profits are. I would say that’s my biggest surprise, how robust corporate profitability is, even with a quite dysfunctional Washington.

**Chris Dillow, for his part, gives the lie to the idea that higher inequality leads to higher investment. Thus, in his view, “defenders of inequality must come up with something better.” Cohn and the other Republicans who are peddling the benefits for workers of the current tax plan are going to have to come up with something better, too.

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Kevin Hassett and the other members of the president’s Council of Economic Advisers are just like the long-haired preachers Joe Hill sang about more than a century ago. They come out every night to tell us what’s wrong and what’s right. But when asked about something to eat, they answer in voices so sweet:

You will eat, bye and bye
In that glorious land above the sky
Work and pray, live on hay
You’ll get pie in the sky when you die.
That’s a lie

With one notable exception: according to the Council (pdf), that “glorious land above the sky” lies just on the other side of the Trump administration’s proposed tax reform. And workers, whose real wages have stagnated for decades now, won’t have to die to receive their pie in the sky.

Reducing the statutory federal corporate tax rate from 35 to 20 percent would. . .increase average household income in the United States by, very conservatively, $4,000 annually. The increases recur each year, and the estimated total value of corporate tax reform for the average U.S. household is therefore substantially higher than $4,000. Moreover, the broad range of results in the literature suggest that over a decade, this effect could be much larger.

There’s no other way to put it. That’s a lie.

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As is clear from this chart, both corporate profits (the red line) and investment (the blue line) have soared in recent decades. There’s simply been no shortage of investment or investment funds, either from retained earnings or in terms of money borrowed from financial institutions. At the same time, the wage share of national income (the green line in the chart) has fallen precipitously.

So, even if cutting corporate tax rates (and thus permitting higher retained earnings) did lead to more investment, there’s no guarantee workers’ wages would increase as a result. They haven’t for decades now. Why should that change in the future?

Moreover, there’s no guarantee higher retained earnings would lead to more investment. Just as likely (perhaps even more so), corporations would be able to use their profits for other purposes—including higher CEO salaries, increased dividends to stockholders, more stock buybacks, and a higher rate of mergers and acquisitions—which have nothing to do with raising workers’ wages.

The only result would be more corporate power and more obscene levels of inequality in the United States.

And that’s no lie.

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“When I use a word,” Humpty Dumpty said in rather a scornful tone, “it means just what I choose it to mean—neither more nor less.”
“The question is,” said Alice, “whether you can make words mean so many different things.”
“The question is,” said Humpty Dumpty, “which is to be master—that’s all.”

Alice in Wonderland (pdf) is the key to understanding much of what is happening in the world today—especially the language of economics.

For example, we’re going to hear and read a great deal about tax reform in the days and weeks ahead. But, based on the proposals I’ve seen, nothing in the way of tax reform is being proposed.

The usual meaning of reform is that it involves changes for the better. Most of the so-called reforms that are being proposed by the Trump administration—including the vague speech by Donald Trump yesterday—are just cuts in the tax rates that will directly benefit wealthy individuals and large corporations.

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Supposedly, the rest of us will eventually benefit because of increased investment. However, as is clear from the chart above, both corporate profits and private domestic investment are doing just fine without a cut in tax rates. But the benefits to the rest of us simply haven’t appeared.

Moreover, as I have explained before, U.S. corporations are not losing out in the competitive battle with foreign corporations because they face tax rates that are much too high.

And, no, as I have also explained, repatriating corporate profits will not lead to more investment, government revenues, and jobs.

In fact, as Patrician Cohen makes clear, the whole idea of repatriating profits held abroad makes no sense.

That’s because repatriation is not really about geography. Most of the money is not stashed in some underground vault overseas, but already in American financial institutions and capital markets. Repatriation is in effect a legal category that requires a company to book the money in the United States — and pay taxes on it — before it can be distributed to shareholders or invested domestically.

The whole notion of earnings trapped offshore is misleading, Steven M. Rosenthal, a tax lawyer and senior fellow at the Urban-Brookings Tax Policy Center. “The earnings are not ‘trapped,’” he said. “They’re not offshore. They’re not even earnings. They’re accounting gimmicks that allow earnings to be shifted abroad.”

What’s more, companies already get something akin to tax-free repatriation by borrowing against those funds, with the added bonus of being able to deduct the interest paid on those loans from their tax bill.

What if corporations are induced to book their overseas profits in the United States? We probably won’t see much if any increase in private investment, since corporations aren’t facing any kind constraint in profits or their ability to borrow beyond their current profits. What is much more likely is some combination of more mergers and acquisitions, more stock buybacks, more payouts to shareholders, and more compensation distributed to CEOS.*

And that’s going to lead to even more inequality in the United States.

Alice surely would have seen through the meanings of all these misleading words concerning tax reform.

 

*AT&T is a good example of a company that already passes a low effective tax rate by exploiting tax breaks and loopholes. However, according to Sarah Anderson,

Despite the enormous savings AT&T has realized, the company has been downsizing. Although it hires thousands of people a year, the company, by our analysis at the Institute for Policy Studies, reduced its total work force by nearly 80,000 jobs between 2008 and 2016, accounting for acquisitions and spinoffs each involving more than 2,000 workers.

The company has also spent $34 billion repurchasing its own stock since 2008, according to our institute report, a maneuver that artificially inflates the value of a company’s shares. This is money that could have gone toward research and development or hiring.

Companies buy back their stock for various reasons — to take advantage of undervaluation, to reward stockholders by increasing the value of their shares or to make the company look more attractive to investors. And there is another reason. Because most executive compensation these days is based on stock value, higher share prices can raise the compensation of chief executives and other top company officials.

Since 2008, [AT&T CEO Randall] Stephenson has cashed in $124 million in stock options and grants.

Many other large American corporations have also been playing the tax break and loophole game. Their huge tax savings have enriched executives but not created significant numbers of new jobs.

Boeing is another good example. As Justin Miller explains,

Boeing has received a tax refund in five of the past ten years. It saves itself $542 million a year using a special domestic manufacturing tax break, and $1.8 billion in further cuts thanks to a research and development tax credit. Boeing also benefits from the immensely favorable depreciation schedules on capital that has saved it billions of dollars over the past decade.

Boeing also entered into a $9 billion tax incentive deal with Washington state back in 2013—the largest corporate subsidy ever—to “maintain and grow its workforce within the state.” But, as Michael Hiltzik points out in the Los Angeles Times, the company has since cut nearly 13,000 jobs (about 15 percent of its Washington workforce) as it sets up shop in cheaper states that offer incentives of their own.

It still manages to enrich its shareholders though. On the same day that it announced a production slowdown in December, Hiltzik notes, Boeing also announced a 30 percent increase in its quarterly dividend and a new $14 billion share-buyback program.