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Archive for September, 2011

It was very helpful to receive the comments in the News Journal of Delaware OMB director, Ann S. Visalli, regarding the unfunded retiree benefits of government employees. My response follows.

First, Ms. Visalli is correct that the state’s pension fund is 94% funded. The data that the Pew Foundation had at the time of their analysis was 92%. So that is positive change. Based upon the Pew analysis, however, that leaves a dollar amount of unfunded pension obligations ranging from $476 million to $900 million. No small potatoes.

Second, as Ms. Visalli points out, although the Pew analysis shows 22 states as fully meeting their recent fiscal year pension obligations, only 2 states are fully funded.

Third, lowering the expected rate of return on Pension Fund assets from 8% to 7.5% is a welcomed shift toward reality. The 8% rate was used in the most recent annual actuarial report on Delaware’s pension fund. If the State can indeed earn 7.5% (off an actual, not an actuarial cost basis), might I put all my retirement money in their fund? Interestingly, as of September, state of Delaware dividend and interest earnings are running 21% below what was expected.

Fourth, HB 81 is indeed a positive step forward. Instead of the State paying 100%, it will now pay 96% for employees enrolled in the State’s basic plan. Retiring employees will have to pay 5% of the Medicare supplemental insurance provided by the State.

This together with other changes in retirement age and the treatment of overtime pay in the calculation of pension benefits, amounts to, according Ms. Visalli, a savings of $100 million over five years. This pales in the face of the $476 to $900 unfunded pension liability and the current $5.5 billion unfunded retiree healthcare liability. It seems akin to throwing a bucket of water on a burning house.

The State has started to recognize its “fiscal time bomb”, but the corrections taken so far are inadequate given the magnitude of the unfunded liabilities. When your liabilities are approaching double your annual operating budget, you have a problem.

Dr. John E. Stapleford, Director
Center for Economic Policy and Analysis

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Again and again and again politicians have to learn that raising taxes above a reasonable level results in less tax revenue by encouraging tax avoidance. The current tax rate of 35% on the repatriated income of the foreign operations of U.S. firms, the highest rate in the developed world, is a classic example.

Rather than turn over more than one-third of their net income earned abroad to the U.S. government, companies simply keep that net income overseas. This means, of course, that jobs and investment, together with all the economic multiplier effects, remain overseas as well. In addition, U.S. companies seek out overseas tax havens and reconfigure company ownership to become foreign based.

The most comprehensive research on taxes and income repatriation simply confirm what economists and common sense predicts.

Dr. Robert Shapiro is, Chair of the Globalization Initiative for NDN, a center-left think tank and former Under Secretary of Commerce for Economic Affairs in the Clinton Administration, and Dr. Aparna Mathur, is a resident scholar at the American Enterprise Institute. After an econometric analysis of two decades of data on repatriation, Shapiro and Mathur conclude that “enacting temporary tax relief for repatriated foreign earnings in 2004 brought back several hundred billion dollars for the U.S. economy, and ended up providing billions for the Treasury.”

“Enacting repatriation again should have the same effects at a time when revenues are scarce. While it would be better for the American economy to put in place corporate tax reforms suited to the realities of our new global economy, taking the temporary step of another round of “repatriation relief” would be a fiscally sound option that policy makers should consider in the months ahead.”

The central complaint of critics is that U.S. companies will not hire more U.S. employees from the additional repatriated income. Instead the companies will pay down their debt and use dividends and repurchasing to drive up the value of their stock (to the benefit of top management).

The results from the most recent rate cut refute this concern. The Homeland Investment Act (HIA) of 2004 provided a one year reduction of the tax rate on repatriated income down to 5.25%. Repatriation surged during the grace year and that effect continued for at least three more years. The estimates are that by the end of a decade, the rate reduction will have generated a net gain for the U.S. Treasury of $23.5 billion.

The surge of repatriated income during the tax cut year resulted in an estimated gain of 92,000 jobs in the U.S. economy. Especially large employment gains were recorded in manufacturing, finance, and retail. Nevertheless, the macroeconomic boost in hiring extended across all but a handful of industries.
There is no single “silver bullet” for the lagging U.S. economy. We are suffering from death by 1,000 cuts. This means remediating the situation one misinformed policy at a time. Reducing the repatriation tax rate would be one positive policy change, helping to free up to an estimated $1.2 trillion in foreign cash balances of U.S. firms to come home.

Dr. John E. Stapleford, Director
Center for Economic Policy and Analysis

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Staring into an Abyss

The latest Gallup Economic Confidence Index (ECI) numbers for Delaware are stark.

Every week Gallup conducts a nationwide survey of consumers. The ECI is based on two questions: the first asking consumers to rate their perceptions of current economic conditions as “excellent,” “good,” “only fair,” or “poor,” and the second asking them whether economic conditions in the country are “getting better” or “getting worse.” The final ECI is an average of the percentage of consumers answering positively and negatively.

After progressing from -50 in 2008 to -28 in 2010, the national ECI averaged -32 during the first half of 2011 and fell away to -53 for the last three weeks of August.

The ECI in Delaware went from worse than the nation in 2008 (-51) to more optimistic in 2010 (-21). For the first half of 2011 the Delaware ECI has dropped to -35, ranking Delaware consumers the 8th most pessimistic among all the states. About 46% of Delawareans rate current economic conditions as poor and 63% believe the economy is getting worse. (Data for the last three weeks of August are not broken out by state.)

The confidence of Delaware consumers in the economy makes sense given recent trends. Over the past three months unemployment in Delaware began inching up again even though the size of the labor force has begun dropping. Initial claims for unemployment are on the rise. On a year over year basis, total employment has fallen three straight months. And, driven by upswings in the prices of energy and food at home, Philadelphia area inflation is closing in on 3%.

Obviously this is a critical time where any government changes in taxes, regulations, energy costs or debt spending will send a single to a sensitive business community.

Dr. John E. Stapleford, Director
Center for Economic Policy and Analysis

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Administration economists and officials keep touting the multiplier effects from additional government spending. Extended unemployment benefits generate more than a dollar’s worth of activity in the economy. More agricultural subsidies will pump up economic growth.

This is macroeconomic smoke and mirrors. Why?

First, many industries have a higher output multiplier than government. For example, according to the U.S. Bureau of Economic Analysis, the multiplier impact of a dollar spending on manufactured goods has a one-third greater impact on total output than a dollar of spending on government. Efficiency is enhanced by allowing markets to determine the distribution of spending.

Second, and more important, a dollar spent on government has to come from somewhere else in the economy. If it comes from household consumption then total personal spending in the economy falls, offsetting the impact of increased government spending. If it comes from savings, then investment drops and offsets the impact of increased government spending.

If it comes from pumping up government debt, the depressing effect on consumption and investment is simply delayed until a later date.

One way or the other, the piper must be paid. Either current growth in the private economy is curbed or future growth is curbed. There is no free lunch. It is that simple.

Dr. John E. Stapleford, Director
Center for Economic Policy and Analysis

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