Trump Towers, a few years ago

“Kids we need to need to plan.”

“What’s up?”

“It’s about depreciation.”

You love depreciation!

“I do, but at some point it’s going to catch up with us.”

“What do you mean?”

“Well you know how the tax code allows us to keep two separate sets of books, one for the banks and another for the IRS?”

“You’ve said that before, but I’ve never really understood how it works.”

“Well the banks value our properties at their current worth, and the IRS looks at the value of the properties at cost minus depreciation. That difference means that we can borrow against the full value of the properties, and write-off the interest and the depreciation against income for tax purposes. If we keep buying properties and writing off the depreciation plus the interest, we don’t pay tax on the difference in the values, until we sell them.”

“Well that’s simple then. Don’t sell them!”

“It also happens when I die!”

“What happens then?”

“The IRS takes all the depreciation written off over the years as income.”

“How much does it come to?”

“A lot!”

“So we’ll just sell a few of the properties to pay the taxes.”

“After you pay off the mortgages, there still won’t be enough cash.”

“So what do we do?”

“We need to change the tax code, especially the part that covers estate duty.”

“The politicians will never agree to that! Not even the Republicans.”

“There are a number of politicians who are very concerned about the complexity of the tax code. The person at the head of that queue is Paul Ryan. Even The Economist says that the tax code needs reform. We just need to make sure that the estate duty is done away with, or at least significantly reduced.”

“And how are you going to convince them to do that?”

“I’m going to become the next President!”

More at:
26 U.S. Code § 6103 – Confidentiality and disclosure of returns and return information
Donald Trump’s Deep Love Of Tax Depreciation – An Affair To Remember
Donald Trump’s Possible $0 Tax Bill – That’s Why People Do Commercial Real Estate Development
Fixing the Broken Tax Code
Fixing the tax sieve
How Donald Trump Uses the Tax Code in Ways You Can’t
Ok, so where are the tax returns
Simpler, fairer, possible
Trump owes us his tax returns now more than ever
What is Depreciation, and Why Was it Mentioned in Sunday Night’s Debate?

That’s rich

It’s not unusual to hear a political debate where socialism and capitalism are portrayed as opposites.

In these discussions socialism is often depicted as Robin Hood taking from the rich to give to the poor.

The proponent for capitalism argues that entrepreneurs create jobs, and diminishing their returns acts as a disincentive, that if sufficiently severe will eventually drive the capitalist onto another country’s shores. Low taxes, they continue, will retain the entrepreneur’s skills and capital, and with them the jobs that they create.

The counterargument is that the capitalists contribution does not exist in a vacuum, and that their skills are frequently the product of a privileged background. The gross inequality between the rich and the poor is unjust and undeserved.

Often the parties accept the premise that capitalism generates greater aggregate wealth for the country – so a bigger cake, and so the capitalist argues everyone is better off, although it is the risk taker, the entrepreneur, that gains the most.

It seems from recent research that that belief is wrong. Socialist systems, at least those where the disparity between the richest and the poorest is small generate more aggregate wealth than those where the imbalance is huge.

Switzerland, the country with arguably the best socialist system in the world, also has the highest wealth per person ($468,200). Next down the list is Australia ($355,000), also with a good social system. Then Norway ($326,000) with a social system comparable with the best. The wealth per capita in the U.S. ($262,400) does not offer a convincing argument that raw capitalism makes everyone wealthier.

Part of the reason for this mistaken belief is the metric that is most often used to portray national wealth, the Gross Domestic Product (GDP). GDP is a measure of economic activity for a year, not the accumulation of wealth.

The narrowing of inequality in the United States in the period between in the mid-20th century also coincides with one of its strongest periods of economic growth. Claudia Golden and Larry Katz, two economists at Harvard, attribute this success to a dramatic boost in education earlier in the century.

Roosevelt designed trust busting regulation to weaken America’s robber barons, so making the American dream a realistic proposition to those reaching for it. Banking, a big source of wealth in the early 20th century, was heavily regulated after the depression.

Since the 1970s the inequality gap has widened again. This is coincided with a relaxation in the banking regulations and a fourfold accumulation of wealth in the top 0.01% of all households in the United States. In spite of globalization and the IT revolution economic growth during this period has slowed dramatically in the developed world.

So, the research suggests, a progressive balance of legislation, informed tax regulations, equitable social systems designed to protect the poor, without corruption and cronyism, makes the country’s people wealthier.

And that requires good leadership.

More at:
As you were
Credit Suisse Global Wealth Databook 2012
Credit Suisse Global Wealth Report 2012 
Inequality among World Citizens: 1820-1992 François Bourguignon; Christian Morrisson
English Workers’ Living Standards During the Industrial Revolution: A New Look* By PETER H. LINDERT AND JEFFREY G. WILLIAMSON
MEASURING ANCIENT INEQUALITY Branko Milanovic Peter H. Lindert Jeffrey G. Williamson
AMERICAN INCOMES BEFORE AND AFTER THE REVOLUTION Peter H. Lindert Jeffrey G. Williamson
AMERICAN INCOMES 1774-1860 Peter H. Lindert Jeffrey G. Williamson
Intergenerational Economic Mobility in the U.S., 1940 to 2000 Daniel Aaronson and Bhashkar Mazumder

Why save the banks?

The 1%, that’s shorthand for the world’s wealthiest people, have $122 trillion of investible assets. That’s 174% of the world’s GDP.

The financial crises started with a collapse in the value of financial assets, mostly made up of the sub-prime bonds, amounting to about $3 trillion. So where’s the problem. The money was lost under capitalism – and capitalism is about promoting success and terminating failure. Write off the $3 trillion, and let’s just carry on. It’s a small percentage of the $122 trillion.

But it’s not that simple.

Many of those bad financial assets were held by banks. When the savers who have money in the bank, and they are definitely not the 1%, hear that it might go broke, and that’s where their life savings are kept, they try and get it out – fast, and all at the same time. That’s called a bank run, and it’s what happened in the great depression. Letting that happen is considered to be one of the BIG mistakes that government made that time round.

A banking crises is a crises of confidence. Savers think that the bank won’t be able to pay them their money. Now, that may just be a liquidity crises – the bank is not broke, it just does not have enough cash to meet the demand for withdrawals. When that’s the case, the bank goes to the markets and borrows the money. If it’s credit rating is in question – the credit rating agencies have downgraded it, it has to pay a higher interest rate, and it does because survival is at stake, and it lives to fight another day.

If the bank is broke, that is after writing off the dodgy assets, the liabilities of the bank exceed the value of the remaining assets, then no-one is going to lend it money, except perhaps the government. That’s what Ireland did, and that’s why Ireland eventually had to ask Europe to help it out. It’s also one of the problems in Spain at the moment.

Often the solution is a matter of proportion. The size of the borrower’s shortfall in relation to the size of the lenders available funding. Spain’s requirements are a lot bigger than Ireland’s were. Italy’s are even bigger. Europe does not have sufficient resources to fund Spain, let alone Italy.

The 1% do. We figured that out at the beginning.

They (together with other investors) invest in governments via the bond markets. When a borrower looks as though it may not be able to repay it’s debts, the only way that it can borrow is to pay higher interest rates. At some point the interest rate becomes so high that the lender cannot generate sufficient income to cover the interest, and default becomes inevitable. So the 1% won’t lend the money unless they get a return that’s high enough, and that might eventually make failure unavoidable.

The irony in this is that the $122 trillion is not real money. It’s the value of existing investments. If there is a depression at the same level of magnitude as the one that happened in the 1930s (which might happen if the politicians don’t start dealing with these issues), a big proportion of that value will disappear. Much of value exists in the stock markets of the world, representing the value of the earnings of the corporations listed there. If the earnings disappear, which is what happens in a depression, the value will go too. So the 1% have got a big interest in helping to sort out this mess.

Perhaps someone should tell them.

More at:
Wealth management Private pursuits
Spain’s banking system Teetering