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The potential for conflicts of interest has always been there

The potential for government leaders (of any country) holding conflicts of interest has always been there.  In fact, while mainly a secret that few will admit, this is a big reason why many people pursue public office.  Unfortunately the allure of greed leads many to leverage newly-granted powers for personal gain.  It is a nice thought to imagine that there are those that get into politics to “serve the people”.  It must be true that this occasionally happens.  However, it appears that the recent presidential election left the American people for all practical purposes to choose between two people, both of  whom appear to be people so consumed by and addicted to power, and what that power brings, that they will say just about anything to win office.  The 2016 presidential election is like a case study to determine the most narcissistic, most untruthful candidate (this comment does not include any third party candidate).  The same can be said about the elections of the two party candidates which led up to the presidential election.

This brings us to conflicts of interest.  One reason Clinton lost the election was due to perceived impropriety concerning the Clinton’s use of their Foundation.  That is, conflicts of interest.  Certainly Trump has noticed over the years how his friends the Clintons (let’s face it, it is hard to doubt that they are friends, in spite of the showmanship leading up to the elections, given that the Clintons attended Trump’s wedding to Melania) benefited from conflicts of interest.  Is it not a valid point that during the years of their friendship, Trump became a “student” of the Clintons abuse of power, and wants this for himself (editors note:  some good has arisen from the Clinton Foundation)?

Trump has stated that he will set up blind trusts for his businesses, to be run by his children.  This will not be adequate to meet the spirit of the laws that control conflict of interest, since Trump says correctly that such conflict of interest laws have not heretofore applied to presidents.  Therefore, it is clear that Congress needs to make laws for this purpose, and they need to make these laws BEFORE Trump is sworn in as president.

If new laws are not written, the prospect of having a President Trump for at least 4 years is guaranteed to net many conflict of interest benefits for himself and his family.  In either case, we can only hope and pray that some of these benefits (as well as campaign promises) will also trickle down to the people, especially to the people that were led to believe that their lives will be better in 4 years.

Trump himself should want these laws to be written and signed.  Otherwise, there will be pressure by those in Congress to not look away while the potentially unprecedented abuses of power occur.  At least if the laws are in place, Trump should make attempts (with proper counsel) to control his actions.  Imagine the alternative, where Congress determines that large abuses of power have taken place.  In this case there will be a mandate to impeach Trump.  Something like what happened to (his golfing partner friend) Bill.   Surely, Trump would not like to be only the 3rd sitting president to be impeached, would he?

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The growth of the public sector vs. the private sector in the last 10+ years

The Labor Department official jobs report issued today, showing that 287,000 jobs were created in June (  Fortunately, this report shows that the size of government did not increase in June.  This blog covers government jobs in addition to the private sector.  For the Labor Department to mention both sectors at the same time, while this has been done for a long time, has always been somewhat surprising giving that governments should exist mainly to support economies, rather than be considered as profit centers.  In fact, in 1900, Federal government expenditures have increased from 3% of the economy to a whooping 24% of the economy in 2012, and it is likely even larger than that today.  Why, in less than 4 generations, have we allowed government to become so big?  Or rather, why have we allowed governments to grow themselves to the humongous size that they currently are?

In a more perfect world, governments should still exist, but in the US they clearly should be much smaller than they have become.  Governments exist mainly to serve the governed people and to serve as facilitators, not to be a large if not the largest segment of any economy.  This is where the Federal and many State and Local governments are today.  Having said that, it is still true that Governments not only need to exist, but in fact there are times that Government not only needs to spend, but to spend heavily.  A prime example is when the economy is weak or in a recession, where growth needs to be manufactured, and it is most conveniently and easily done by increasing expenditures such as infrastructure spending.  However, it now seems that governing bodies of all sorts have become so addicted to these types of measures that they just don’t stop spending, and therefore continue to grow in relation to the private sector.

But there are other, perhaps even more major concerns than Governments that become too large.  This blog space is too small for a full, in-depth analysis of these other concerns, such as the exponential rise in both public and private sector debt since 2000.  The attention of this blog space is to focus on what has happened in State and Local Government wages and benefits in the last 10+ years.

Let’s look first at State and Local Government wages compared to a variety of private sector wages:

Chart 2

In this chart is shown that that State and Local wage growth is trending similarly to a cross-section of private industry sectors, according to data obtained from: Employment Cost Index Historical Listing – Volume III   April, 2016 Bureau of Labor Statistics, see  OK so far, so good (although this data makes no mention of how many more government employees exist today compared to yr2005).


However, when we look at benefits, an entirely different picture emerges:

Chart 1

In this chart we see something much different.  In this case, we see two sectors rising to the top of the chart.  Here we see the BENEFITS of state and local government workers (countrywide) taking off compared to the private sector, and even more than for Union workers.

It is important to note that we need to also combine both wages and benefits to get the complete picture:

chart 3Unfortunately, what we still find is that even by adding the more equivalent wage picture to benefits, the overall compensation picture PER EMPLOYEE, at least for State and Local governments, has grown significantly more in the last 10+ years than for the private sector.

What this tells us is that not only have government expenditures grown from 3% to 24% of the economy in less than 4 generations (ie massive growth of the public sector), but that in the last 10+ years, we have allowed our State an Local officials to pay themselves better than we get paid ourselves (ie, those in the private sector), especially when it comes to benefits.

So much attention is always focused on reigning in spending by corporations large and small when times get tough. Shouldn’t we also focus on the public sector as well?  A recent article in the local paper provided some very revealing insights concerning the typical thought process of elected leaders.  It happens to be quoted on by a local county government official in Illinois, a state where there are an incredible number of elected and especially appointed officials (this reality along with the related pension fiasco go hand-in-hand with the fact that Illinois has had so many budget problems for so many years and is now considered by many to be the most poorly governed state in the US).  In this county in Illinois, the board chairmen noted that the only way they could balance the county budget for fiscal 2017 was for department heads and elected officials to 1) cut staff, 2) increase revenues,  3) cut services, and/or 4) raise property taxes.  Clearly this contagion runs not only through the Illinois state capitol, but in counties as well.

How about this one:  5) eliminate the redundant/unnecessary elected and appointed government positions, and the massive pensions that go along with them.  It will be painful, but at some point it will be necessary to clean house throughout the state of Illinois.  And to some extent, as the charts and information above show, likely every state (as well as the Federal Government) need to clean house as well.


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The deceivingly low unemployment rate in the US

The Labor Department just reported that the unemployment rate is at 5%.  The Federal Reserve considers a base unemployment rate (the U-3 rate) of 5.0 to 5.2 percent as “full employment” in the economy.  Classic economic theory predicts that a tight labor market develops when “full employment” is reached.  Specifically according to this theory, once “full employment” is reached, employers begin having more difficulty filling job vacancies, followed by increases in wages (beyond the inflation rate), either to keep their employees from leaving, or to recruit good employees from someone else.  However, the US unemployment rate has been at or below this 5.0 – 5.2% range since July, 2015, with essentially no increase in wages during this time.  What gives?

Clearly, it is time for the Fed to adjust it’s definition of what “full employment” is, because if it means that it is the time when wages begin to meaningfully rise, then an unemployment rate of 5.0 to 5.2% is too high.

One clue to make sense of this is to look at a measure called the labor-force participation rate.  The “full employment” of 5.0-5.2% idea was conceived during the days when the labor-force participation rate was much higher than it is today.  Experts have even stated with an optimistic tone that recently the participation rate has increased from 62.9% to 63%, stating that it is at its highest rating in two years, and further using the upward turn to the right of the figure from the Bureau of Labor Statistics below as evidence of an uptrend:

However, what happens when we look at a longer period of time, such as all data post-WWII, when the ratio of single earner to dual earner households was much higher than it is today? Well, we see two disturbing truths in the longer term trend, particularly since 2008:

One is that from a peak of nearly 67.5% to today’s 63% (ie 4.5%) is nearly a 50% drop to it’s long term rate of just over 58% (pre-1966) when most households had one earner, not two. Given that a much higher percentage of households are dual earner today compared to pre-1966, one would expect this chart to remain above 66%  Certainly the retirement of “baby boomers” will cause some of this decrease, but not all.  The second disturbing trend more evident in the long term chart is that any recent uptrend in this chart is tenuous at best.  Rather, it is just as likely that we will not get a “V shaped” recovery in this trend, and that the continual downward trend since 2009 will continue unless more drastic changes are made to put more working class people to work, including those that have given up hope.

Maybe economists need to switch to a combination of the unemployment rate and the labor-force participation rate, and not just state the unemployment rate as a measure of “full employment”.  If this is done, it is likely that this alternate measure will more accurately predict when “a tight labor market will develop”, which would in fact bring meaningful increases in wages.

Perhaps just as importantly or more so, political policies that have been in existence since 2009 will need to change to eventually truly bring about “full employment”.  Economists can devise a more accurate measure of unemployment for today’s society, but they are not in position to get this job done.  It is up to US citizens to elect the appropriate leaders to get this done, at the State and especially at the Federal level.

Corporate US Tax Dollars Continue to Leave US – How Bad is It?

US government authorities have tried to assure us that they are cracking down on so-called “inversions”, which allow the merging of US-owned with foreign-owned companies, followed conveniently by the combined entity paying corporate taxes in the much lower taxed foreign country.  This effectively allows the formerly US-based company to pay significantly less in taxes (or none at all) to the US.  This accounting slight of hand, where US companies basically “renounce their US citizenship” so that they can pay less in taxes (a shareholder-favored/US citizen disfavored move) has been going on for at least 20 years now.  However, it has become more popular in recent years.  Any limitations on this practice attempted by US government authorities recently has not decreased the exodus, presumably in order to not upset major shareholders of the corporation.  This kind of thinking must stop, because it is slowly eating away at the very fabric of our great country.  It appears that even some of our largest companies are beginning the inversion process (most recently the Milwaukee-based Johnson Controls, and the New York-based Pfizer), companies founded well over 100 years ago.

So, how bad is the problem today?  One way to define the problem is to determine how much US Corporation tax is lost annually, compared to total tax receipts.  For example, according to the Office of Management and Budget, in 2014 there was $320,731,000,000, or approximately $320 billion tax paid by US corporations.  It is estimated that US companies that have already completed inversion generate approximately $70 billion annually in sales.  At the current US corporate tax rate of 38%, this translates to as much as $26.6 billion in US corporate tax dollars averted, or over 8% of the total 2014 taxes collected.

This 8% number may not seem huge, but it does nothing to quantify the damage to the US workforce and the future of our country.  In other words, when US companies merge into a foreign company, jobs are almost always lost, and may never come back.  Further, the lost taxes only makes the federal deficit worse.  Its time for our representatives in Washington to get back to work, and take this problem much more seriously before it gets any worse.

This is not a difficult problem to fix, guys.  It’s mainly a matter of determining the level of taxation (read: lower) where it does not make sense for at least some of these companies to leave.  That number is going to be between 38% and 15% (the tax rate of Ireland, where most of these companies seem to be going).  Further, the US as a whole is going to need to become more prudent about how it spends tax dollars (read: cut out more of the fat).  Although this is the fix, it will not come easy, and it will no come fast.  But it must be done.

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World Federal Bank Moves and Unprecedented Market Control

At the time of this writing, US market indexes are near all-time highs in spite of falling profits for S&P 500 companies.  The only good news is that the fall has not been as precipitously fast as it was during the financial crisis of 2008-9.  Therefore, there can be only one reason why the US market indexes are so high.  That is, not only has the US Fed kept rates near zero, but other major economies are posturing to lower rates, or have already done so.

With rates being so low in the US for over 6 years, many US companies as well as whole industries have made great strides, or recovered due to the very cheap financing that has been available to them to prop up their finances.  This act alone, for so long, is highly unusual and should give all investors pause.  The Chinese government has taken notice, by lowering their own key lending rates a total of 6 times in the last year alone.  Europe has strongly hinted lately that they will do the same.

So by review of market data from a number of sources, it appears that without continuous stimulus by the US Fed, the US market should have dipped back into recession in 2011, followed by the longest recession ever seen.  This did not happen due mainly to the extraordinary moves by the Fed.  Other economies such as China by their actions are hoping to avoid a recession of their own, and Europe is also following suit.

The moves by the Fed to lower rates have also served to strengthen the US dollar vs. other currencies.  This was true even before other international governments began lowering their rates.  This in turn has had the effect of making US exports less profitable, due to the currency imbalance.  Since the current reality is that many large US companies derive most of their profits from overseas, this currency imbalance has limited their growth.  The US Fed would be foolish to begin raising rates when much of the rest of the world is lowering theirs.  Doing that would stifle growth further, which the Fed is hoping to avoid. It is clear that the US Fed will provide action by inaction, namely to continue to keep rates near zero for the foreseeable future.  Certainly, this will keep the market from crashing, but such unprecedented moves may be the only reason why the market has not crashed.

Unfortunately, the fact remains that healthy economies do not keep their interest rates near zero for over 6 years, or indefinitely.  It possible that economies such as China and Europe will also keep rates extraordinarily low for the next 6+ years.  No one knows how this will affect the world market, since the world has never seen this happen before.  We will explore more the difficulty that the Feds continue to face, ie why they each know that they cannot raise interest rates, in a future blog.

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Google 2016 – Will formal definition – Alphabet – Spell future success?

Google just announced that it will “reorganize” as a new corporate entity named “Alphabet”.  In a sense, this is Narcissus looking into a mirror and saying, “I am much more than a silly name meaning the number 1 with so many zeros after it.  No, look world, how Colorful I am!”, while creating a You Tube video for all the world to see.  No argument there.

google alphabet graphic


However, there is much more to this reorganization than flash and a new name.

In reality, this is further definition of a financial experiment which may have little or no relevance outside the corporate walls of Google.  Certainly there is the possibility that by more formally separating the pieces, that there will be less infighting and less chaos as influencers within the company are less likely to cross boundaries into the parts of Google to which they do not belong.  It is also by no means clear that this reorganization will be of benefit to Google investors.  For example, 90% of sales is currently generated just by the “Ads” piece.  As economically sexy as all the other pieces are, there is no assurance that any of the other pieces will ever be profitable.

Having said that, it likely will only take one of the other pieces to take off for the all of the ad funding to pay off, depending on how successful that piece becomes.  Give credit to Google for attempting this financial experiment, as no company has ever attempted to do this on such a scale.  Only time will tell  whether Google will be better off attempting to create successful new businesses itself, or whether it would have been better off to go the conventional route of buying established companies with its $61 billion (and growing) cash hoard.

But these alternate realities would have played out the same whether Google reorganized or not.

The main benefit of this reorganization is not so much as a benefit to the current investor, but for the investor at some indeterminant time in the future if/when Alphabet is able to successfully spin off one or more successful companies from itself.  If this happens, it will create real reality (of $$$ in the bank) out of what is now just the virtual reality of ideas with potential.  Only time will tell.

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US IRS continues to lose battle to effectively tax corporations (Continued)

About one year ago in a previous blog article, we commented on corporate “mergers by inversion”, which is the attempt by a US-based company to buy/merge with a UK-based company in order to reap significant tax benefits due to much lower corporate tax rates in the UK company. The biggest example given was the attempt by the US-based drug company Pfizer to buy/merge with UK-based AstraZeneca. This attempted merger has since been thwarted in part because of changes made in the US tax code.
However, the changes in the tax code do not affect US companies which had already completed their inversion before the changes in the tax code went into effect. In fact, it appears that most companies (the majority are pharmaceutical companies) that were interested in this form of tax-dodging were clever enough to make this change before the tax changes took place. For example, the formerly Pennsylvania-based Endo Health Solutions acquired Paladin Labs of Ireland in Q4, 2013 to become Endo International PLC. Since then, the Ireland-based company has boldly made or announced three acquisitions of US pharmaceutical companies totaling $8 billion. In total over less than 2 years time along with companies such as Actavis Pharmaceuticals and Valeant Pharmaceuticals, formerly US companies have acquired or have agreed to acquire over $125 BILLION of mostly US companies. This not only decreases the US tax-base, but also creates the feeling of loss for Americans who are aware of such shenanigans, sort of like being a Cleveland Cavaliers fan watching the talented but narcissistic LeBron James take his talents to South Beach, or a Miami Heat fan watching LeBron James take his talents to the beaches of Lake Erie.
While the US authorities were well-intentioned to finally change the tax code to make it less appealing for these inversions to be consummated in the future, the US IRS was clearly late to the party, forcing all remaining, law-abiding, tax-paying US companies and citizens to pick up their tabs.

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A Delicate Balance in The US Economy Brings Renewed Growth and Prosperity

The US economy grew about 2.6% in the last quarter of 2014. This is reflective of the growth in consumer spending (which represents about 70% of the US economy) of more than 4%, and less than 2.6% for the rest of the economy, including manufacturing and exports. In fact when the US economy is humming along at a healthy clip as it is beginning to do now, improving consumer confidence results. This is a natural consequence of a healing and healthy economy.
Looking closer at consumer confidence (ie, the Thompson Reuters University of Michigan survey), it recently hit an 11 year high of 98.1. This slow but continuing improvement is due to a variety of factors, including low inflation, an improving employment situation, and still low gas prices at the pump. Even more important than this 98.1 figure is the rate of change of this figure. For example, the 6 month change of consumer confidence is one of the largest improvements ever. This recipe is generally a good combination for stock markets. In fact, one of the few improvements similar in magnitude occurred in the early 1980’s, which was the start of one of the biggest bull markets in history. Even though markets are currently near all-time highs, could we be in the middle of another large bull market today?

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World Economic Tug of War

While it may be a bit presumptuous to say that the US economy is still the “epicenter” of the world economy, given that some of the developing countries, especially China continue to grow, albeit slowing, more than the US, the US is still the #1 powerhouse and force in the world economy. Therefore, it is still valid to consider this “epicenter” and it’s current health. However, as world economies become increasingly interdependent, we must more than ever consider the complex interactions between world economies in order to more completely understand the big picture.
The checks and balances, both within the US economy and between the US and other economies, remains quite interesting. The US economy has been expanding for over 5 years, which has caused the US dollar to appreciate significantly vs. other currencies during this time. Naturally, when this happens for a long enough period of time, US-made goods become more expensive for foreign buyers, which ultimately puts a cap on US growth, allowing other economies to grow in relative terms.
While the time has not yet come for another US recession, especially considering that gas prices at the pump may remain low for an extended period of time as some predict, the relative health of the US economy should remain intact at least for the next few months. Consider that lower gas prices during the 4th quarter of 2014 alone translated into a whooping $130 BILLION in savings for consumers, much of which will drive consumption growth for goods other than gas. Add this reality to the fact that non-US consumers will continue to invest in the US, it will only further prop the US economy and stock market, if only because the US remains the best, brightest, and safest market for investors.

The Relationship between U.S. Inflation and Overseas Markets

Overall inflation in the US is currently running at about 1.5%, still less than the 2.0% target that the Federal Reserve shoots for. Fairly or not, many equate a decrease in inflation enough to cause deflation, with a recessionary environment or economy. While low inflation is not in and of itself bad, when it gets too low it provides less room to avoid a spiraling effect towards deflation in the event some sort of macroeconomic shock occurs. The problem becomes more complicated as the US economy becomes more dependent on the world economy. True, while slow and plodding, it is generally agreed that the US economy is on the mend. However, the specialized calculus as determined by different economists can sometimes result in confusing results when different estimates of the relevant factors are used in the equation. This is why the stock market has been behaving in a more volatile way recently, with large swings in valuation even within a 1 day period.

More directly, what situation would we be in if inflation dropped a mere 0.5%, due to multiple threats overseas such as a possible slide back into recession by Europe, coupled with a decreasingly inflationary environment in China, the so called “manufacturer to the world”.

It is also unclear, given the different strategies employed by the Fed by multiple attempts to stabilize the economy over the last 6 years, what the Fed can effectively do if called-upon to act once again. Our lives in some ways have never been more complicated, to the extent that the macroeconomic forces impact each of our microeconomic lives.

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