editorial, finance blog

Financial Rant against Washington’s Out-of-Control Debt Machine

“We’re spending $3.7 trillion. We’re taking in $2.2 trillion,” Sen. Jeff Sessions said, “That’s a stunning number, and one of the reasons it’s so out of control is that we don’t have a budget.”

I couldn’t have said it better.  Washington’s overall budgetary condition has gone from ridiculous to shear lunacy.  Without a drastic course correction the loons steering the ship are going to take us and our economy down with them.  (Since most of them have platinum-plated pensions, they will NOT go down with the ship).

By some strange alchemy of mendacity, arrogance, and deliberate ignorance, the United States Government continues to follow the financial lead of Italy, Portugal, Greece, and Spain…. and I might add Japan.  For good examples of fiscal sanity we need only look at countries like Australia, Brazil, China, and South Africa.

US debt trends alarmingly up with no apparent end in sight.   Failure to acknowledge these facts is a failure of leadership.  The lengths the US Government is willing to go to continue this economic farce would likely be criminal if employed by corporations. (Ever heard of fiduciary responsibility?)  Rhetoric like “there’s no problem with Social Security or Medicare… they are solvent”.  Wasn’t the same being said about Freddie Mac and Fanny Mae a short few years ago?  I wish President Obama and the US Congress would read some of the best investing books.

Every good rant deserves to deliver some solutions.  And solutions, I’ve got in spades:

  • Cut Federal spending.  Start the debate at 2008 spending levels, and look for further cuts.  Phase out entire programs.  Freeze federal salaries until unemployment drops below 5%.
  • Acknowledge that Social Security for people currently under the age of 40 will be aggressively means-tested.  Folks under 40 (that includes me) don’t count on much unless you are in poverty during retirement.
  • There are only two kinds of infrastructure with real, lasting economic impact.  Interstate highways and the US power grid.  I’m not talking “Smart Grid”… leave that to local utilities.  I’m talking about new, improved, robust, high-voltage, DC power transmission across the United States.  If Canada and Mexico want to sell their power, let them participate (via treaty).
  • Let US oil and natural gas companies drill.  Charge a 10% profit surcharge on new domestic (and offshore) production if you must, but approve the permits and get out of the way.  [But raise the liability cap for disasters.]
  • Embrace the Canada-to-US oil pipeline.
  • Simplify the C-corp (corporate) tax structure by eliminating ALL “loopholes” and reducing the rate from 35% to 21%.  Exempt the first $250,000 from C-corp taxes, and charge 10% for earnings of $250,000 to $5 million to encourage small business investment.
  • Eliminate the self-employment tax on the first $50,000 of small business earnings.
  • Strike down and reverse most provisions of ObamaCare.
  • Rein in the EPA on faux “pollutants” like CO2 and modest levels of methane.  Instead focus on true pollutants like carcinogens, harmful particulates, and toxins.
  • Get out of the way.  The private sector is a dynamo on steroids and is ready to roll when the regulatory restrictions are lifted and relaxed.  Anti-trust and anti-monopoly rules still serve an important roll.  Workplace safety is important too, but measure results as much as adherence to OSHA procedures.

Believe me, I’m writing with kid gloves.  Tell me where you think I’m wrong.  Please add your suggestions.  I look forward to publishing both.

finance blog, gold, Investing, money

Millionaire by 40? Inflation says Big Deal!

40 years old is still several years off for me, but I it is very likely I will be a millionaire by the time I reach 40.  In fact, if you count my contributions to Social Security (including my employer’s half), the current value invested in my personal “Social Security Trust Fund” puts me there already.  But I’m certainly not counting on Social Security.

So, I’ll be rich right?  Wrong!   First there’s inflation.   Many economists say US inflation has been about 4% per year over the last century.  There’s a handy rule of 72 that says, for example, 72/4 = 18.  That means 4% inflation means that a million dollars today is only worth $500,000 in 18 years and $250,000 in 36 years.

Second, there’s taxes.  Over $300,000 of my holdings are in tax-deferred accounts such as 401k accounts and IRA accounts.  Sure this money is part of my net worth, but when it comes out at retirement I’ll likely be paying something like 30% tax on it.  That’s about $90,000 to Uncle Sam.  Poof!  Gone!

Back to inflation.  Inflation works like a stealth tax.  According to government CPI figures, US inflation increased just 1.5% in 2010.  That simply doesn’t jive with my experience.  My HOA fees increased 7%, my electric and water bill increased 8%.  Car insurance, home insurance, satellite TV, health-insurance premiums, internet, rooms at my favorite hotel, and meals at my favorite restaurant went up, by 4-10% last year.  Even the local sales tax increased almost 1%, making everything that much more expensive on top of everything else.  In Balhiser World 2010 inflation was about 4-5%, rather than the 1.5% according to the CPI.   Thus I have some new ideas about what CPI stands for…

  • Cagey Price Index  (Price? What price?  Prices are relative.)
  • Calming Price Index  (Nothing to see here. Relax. Inflation is under control.)
  • Clairvoyant Price Index  (Far away someone is substituting chuck steak for Filet Mignon.  Meat is meat.  And prices are low.)
  • Creative Price Index (2+2=3 for sufficiently small values of 2)
  • Cowardly Price Index (Please don’t be mad, prices aren’t that bad… see?)

Of course CPI officially stands for Consumer Price Index.  Let just say that for the next 72 years the official CPI is 4%, but actually inflation is 5%.  That handy rule of 72 says that at 4%, one million dollars today will be worth $62,500 of buying power.  At 5% buying power is cut in half to $31, 250.  Of a long enough time a 1 percent difference in inflation is a big deal.

So what?  Well, the CPI is used for a lot of things such as government cost of living adjustments, tax bracket adjustments, Social Security benefit increases, and money paid on Treasury Inflation-Protected Securities, to name a few.

It’s bed time so I’ll cut to the chase.

  1. One million dollars is not what it used to be, and is certain to be worth much less in the future.
  2. To try to remain solvent (and avoid unpopular austerity measures) the US Government has a powerful incentive to under-report inflation.
  3. Many investors and economists are beginning to believe that the CPI significantly under-reports inflation. Examples: “CPI Controversy”“Bill Gross says so”, “Forbes, pastries, and gold say so too”.
bonds, finance blog, Index Investing, Low-Cost Funds

Choose your Fear: Motivating Financial Choices

I freely admit fear is a motivating factor behind my financial decisions.  High on my list of fears (worries, concerns) is inflation.  For a variety of valid economic reasons, long-term bond returns are generally worse than equity returns in an inflationary environment.  In other words, an uptick in inflation hurts bonds more than it hurts stocks.

Fear of market volatility steers me away from stocks, fear of inflation steers me away from (long-term) bonds.   In the current interest rate environment, real rates of return on short-term Treasury debt are negative.  High-quality corporate bonds are only paying a pittance.  And as I have recently blogged, TIPS based on the CPI-U, are not looking so good either.

What options are left to the anxious investor?  Some remaining choices are:  foreign-debt ETFs (as a hedge against US and US dollar inflation), foreign-equity ETFs, and junk bonds.  Perhaps, value stocks as well.  Unfortunately each of these options comes with their own particular set of risks and worries.

The moral of this stories is there are few low-anxiety options for the investor who fears volatility, uncertainty, and inflation.  Retirees looking to reinvest expiring bonds and CDs are finding few good investment options.

There remains on strategy to fall back on to help ease financial anxiety: diversification. Diversifying between equities, bonds, and cash.  Diversifying between US and foreign equity. – Diversifying between large-cap and small-cap. Diversifying between long-term and short-term debt.  Diversifying between high-quality and high-yield (junk) debt.  And, yes, even diversifying between value and growth.

Still, I choose my fears.  Inflation is number 1.  Volatility is number 2.  Fear of missing gains is number 3.  Inflation concerns and dismal interest rates are motivating me to hold more equities (via low-cost equity ETFs) than I otherwise would.

bond funds, bonds, finance blog, funds, money

US Debt Ceiling… Sky’s the Limit?

The current debt ceiling is set at $14.294 trillion, and according to CNN Money we are days away from reaching it.  Treasury Secretary Tim Geithner estimates he and his team can keep the US out of default until early August.

I appreciate the increased attention on the US nation debt.  My concern is the the US is beginning to flirt with danger:  increasing risk of a debt crisis.   US debt is a fair ways removed from the debt crises of the PIIGS (Portugal, Italy, Ireland, Greece, and Spain).  However, the current trend of debt as a percentage of GDP is ominous.

A US debt crisis would look a bit different from that of the PIIGS because the US is not bound to a multi-country currency like the Euro.  Devaluation of the USD is likely to be a component of (or reaction to) a US debt crisis.  So are austerity and tax increases.

The danger is that buyers of US debt will demand higher and higher interests rates to compensate them for taking on three key risks,  inflation, devaluation, and default.   As debt increases so do these risks.  As the US refinances debt for expiring Treasurys it does do at greater and greater costs.  As the government raises taxes to combat debt (and pay higher borrowing costs) the US economy is increasingly depressed and tax raises do not result in nearly as much federal revenue as hoped.  Eventually only austerity and devaluation (via the printing press and increases in money supply).

The way I see it, playing brinksmanship now with the debt ceiling in an effort to but the brakes on the US deficit is a reasonable risk.  The current trajectory of the US debt is unsustainable and reckless.  With US debt 90% of GDP and closing in fast on 100%, we are in jeopardy.  This number puts the US next to the troubled Ireland and not far from Italy as shown in this table.

It is time for Congress to get its fiscal act together.  Time is rather short.  I hope we can start making some sort of progress.

finance blog, Investing

Only Half… of our Income?

I was having lunch and one of my friends said that something was troubling him.  He said that he worked out the numbers and, by his calculations, he needed to save 25% of his gross income for retirement.  And taxes took another 25%.  So, that meant he only got to use half of his income.  Only half!  Only half?   Were his calculations wrong?

My first reaction, was no, his computations sound about right.  But, I said, “Please tell me more. Maybe I’m missing something too?”

He explained that his projections were 8% return while he is saving, and then 5% while in retirement mode.  He explained that he had talked with his parents and other retired folks to estimate what their expenses are.

I asked him about how inflation factored into his calculations.  He said that he was estimating about 3-4% for inflation.

So, yes, his estimates made sense.  Knowing his age, and assets, etc, made me think that he had it about right.

So he confided, yeah, but I also have a mortgage and property taxes and insurance?  That takes, more, maybe another 30%.  So that leaves me with, like, 20%.  How am I supposed to do anything with that?!   My income is whittled down to almost nothing!

I could only sympathize.  Yes, I said.  You’ve sussed it out.  I hope that nonetheless you are enjoying your life.   Living responsibly for your future is not easy.  You and your family will, hopefully, thank you later.  The twin tyrannies, taxes and inflation, are the saver’s ever-present adversaries.  Facing them taxes the soul.  The intelligent saver faces them nonetheless, perseveres, and is better for it.

That was the best advice I could offer. It is the advice I give myself. It is unsatisfying, it is adult, it is realist. Are taxes and inflation such tyrants, such a drain? Historic facts say yes. It is the harsh truth. The wise face that truth, and succeed in spite of it. Best wishes, and hang in there. You can do it.

finance blog

CPI Really Stands for…

Ostensibly, the CPI stands for Consumer Price Index. I have a few alternate suggestions:

  • Contrived Price Index
  • Controversial Price Index
  • Captive Price Index

There are several thing that I don’t like about the CPI, specifically the CPI-U (The Consumer Price Index for All Urban Consumers).   Most troublesome, is that it is used interchangeably with the term “inflation” or “US inflation”.  While CPI-U includes food, energy, and medical expenses, for example, it does so in ways that are far removed from the way many consumers purchase.

For me, the CPI-U appears to understate the inflation I’ve seen in the last 10 years.  The price of my satellite/cable TV has doubled.  The share of health-care insurance that comes out of my paycheck has gone from $20/month to $200/month.  I still remember getting a Big Mac value meal for $2.99, but now it’s about $5.00. It’s hard to believe that consumer inflation has averaged just 2.3% annually over that time period.

That’s why I’m glad other folks are developing their own price indexes.  Two examples are the Billion Prices Project Index, and the upcoming Google price index.

I’ve read a number of articles saying CPI-U understates inflation by about 1.0-1.5% annually.  If so, this is  a big deal.  Real interest rates are not only negative they are substantially negative.  And real GDP growth is dramatically overstated.

Investing, money

Taxes and Tension

I got up this morning and went straight away to finalizing my taxes.  Hey, I’m 3 days early!  I use Turbo Tax  Home&Business.  After almost five hours I am done.

I’ve been working on my taxes since February.   I’ve probably invested a total of 15 hours on this year’s taxes.  This includes reading several IRS online documents… skimming about 50 pages and reading about 10 pages in depth… sometimes re-reading many times.  And this includes doing other online research.  I find, however, that the IRS documents are more helpful than much of the drek I come across online.  They are also really boring!

This year (2008 tax year) I have the full straight of schedules: A, B, C, and D.   The filed forms for federal amount to 11 pages.  There are 8 additional pages of worksheets.

By getting done a bit before April 15, I had time to calculate my allowable 2008 Roth IRA contribution.  Unfortunately, I only get a portion of the $5000 2008 limit (for folks under 50).   Once calculated I simply made the Roth IRA investment online.  [Its not too late, you can still make contributions for 2008 up through April 15th! ]

I’m also carrying forward a capital loss.  It’s a bummer that loss offsets against income are still maxed at $3000/year.  Congress, how about some inflation adjustment on this number?  It should be upped to at least $5000 in my opinion.

I don’t hate doing taxes, but they sure are a big pain and hassle.  Hey, at least they are done for this year.  Best wishes to those of you who are rushing to file.  And to all taxpayers, my sympathy.

finance blog, financial, Investing, money

Bailout for the rest of us

I was amused to hear that even the porn kings are asking for a bailout, if only in jest.  I’ve gotten a lot of feedback about my original bailout blog, and the feedback has been fairly consistent:

  • Thumbs down on general stimulus and tax-loss deductibility changes.
  • Thumbs up on the interest and stocks proposals (for the “average Joe”).
  • Suggestions for real, meaningful infrastructure improvements.

I’ve already addressed the infrastructure feedback, to a degree, in a green power blog article.    I’d like to expound on the ideas that got  good feedback and traction:

  1. Make the first $2500 of interest earned in FDIC-insured vehicles (e.g. savings accounts) in 2009 exempt from federal tax.
  2. U.S. Stocks (including ETFs) purchased in 2009 and held for over 18 months would be exempt from capital gains up to $20,000.  Additionally, after 12 months, dividends on such stocks would be tax-free up to $2500 per year… indefinitely.

Idea #1 was the most popular.  In particular readers seems to really like the middle-class and low-income appeal of the idea.  For example seniors commonly have literally some money in the bank.  In addition to Social Security, they common rely heavily on interest income.  A $2500/year break on interest would be very helpful to seniors.

Similarly idea #1 would be, perhaps, the most realistic investment incentive for low-income people.   The are many more low-income people with savings accounts than stock portfolios.  It is easy to open a bank savings account with $100, and sometimes even $10.   And while there are many “unbanked” low-income earners, there are many more who do use banks or credit unions.   Further, since the first $2500 of interest would be tax free there is less risk of an April 15th-surprise lurking around the corner come tax season.

Idea #1 would, of course, benefit the middle class.  With inflation eating away at the value of our hard-earned dollars every year, why should we have to pay taxes on our meager interest incomes as well?  Getting rid of this insult-to-injury tax on the first $2500 of interest income would be a godsend.

Idea #2 is also very middle-class friendly… at least for the investing class.  If part of the government’s goal is to bolster the stock market, I cannot think of a more powerful way to realistically achieve such a result.  I could invision a veritable surge of stock buying with the one-time lure of tax-free dividends for life (up to $2500/year) and the prospect of up to $20,000 of tax-free capital gains.  Sure the capital gains paperwork for the 1040 would be a bit messy… but more much more so than it already is.  And the the dividend paperwork… that would be easy.

So, Congress, and President-elect Obama, I urge you to consider these common-sense proposals.   Please encourage savings and new investment — from the bottoms up.  Help reward the savings of America’s low-wage workers.   Reinvigorate and reward middle-class savings and investing in 2009.

And, readers, thank you for your feedback.  Keep it up!  It keeps me blogging.  Cheers!