Archive for the ‘Ideology’ Category

Sustainable Alternative Energy

Sunday, August 8th, 2010

By Ford Peterson  ©2010 (1)

The “free energy machine” (2) is an urban legend that persists today.  Some believe you can get 80 MPG out of an Olds V8 if you use the right carburetor.  Did you know city buses can be designed to run on water?  The 2010 election is filled with urban myths just as fantastic.  The notion of subsidizing business incubators to create alternative energy jobs defies the laws of physics—and economics.  Until the candidates start talking free market solutions, we’re headed for a long list of stone-aged subsidized tax-and-spend disaster programs!  Can a state infuse money into the market to create jobs and solve our energy problems too?  While the candidates are not kidding, like those elusive buses running on water, it is whimsical thinking.  Unfortunately the public is eager to buy-in to a plan—any plan—that gets us heading into a new energy direction.  This is a correct way for government to promote a sustainable alternative energy economy, heaping baskets of money into the street is not one of them.

Do you want “Free” or “Managed” market economics to rule?

The 2010 election speeches contain campaign rhetoric like “business loans” and “education grants” and “incentives” for “renewable energy jobs.”  They try to make you feel warm all over in hopes you will vote for their plan.  The truth?  The energy industry understands that the vast majority of alternative energy jobs are going to be Chinese and German jobs (they own the viable technology).  The quickest way to screw-up what’s left of our capitalistic system is to begin government subsidy of jobs, business income, or revenue—even if it’s for a well-meaning purpose.  Opening the fiscal spigots will cause love and treasure to pour out-of-our-pockets and overseas unless this is done correctly.  Government / Industry entanglements have repeatedly created caustic industry dependencies and economic disasters for those involved.  Many ethanol-from-corn plant investors have found that their original $10,000 stock certificates make great campfire starters. 

Managed economy methods have been tried repeatedly over the years and each time those pencil-pushing-smooth-talking-financiers-of-folly figure out how to game the system into redirecting government’s best intentions into their own pockets.  Attempting to “manage” problem using direct payments in exchange for initiative is simply bad policy.  Ask any sod-busting farmer how their annual cash payments are viewed by the public—most will admit that it’s public welfare for millionaire land barons.  A far better approach would be for people to pay what the food, fuel, or fiber is actually worth.  This is the free market approach.  When government properly exerts its authority to protect the free market from monopolistic abuse, or cannibalistic behavior (more on that later) the market will manage itself and find its own beneficial economies.  Proper structure to the market will mean that society benefits while lining the pockets of the innovators and entrepreneurs willing to bet their treasure on tomorrow using today’s ideas.  The state’s treasuries benefit from the revenue and society benefits from robust thriving markets (read: JOBS).  The best part?  Not one red cent is recorded as coming from the state!

A double helping of “free markets” please!

Before being asked to leave the unemployment line to queue up for your dark-gray government-issued jump-suit uniform with your name on it, you should decide to vote for:  “Maybe the free market approach would be best.”  Great!  That’s real progress!  Vote correctly in November or we’ll be set back 4 years!  And who should receive your support?  I don’t know.  None of the candidates on any side or from any party are making sense on this topic.  I can’t tell you who to vote for.  But I can tell you what they should support—a free and robust alternative energy marketplace.  I can also tell you what the alternative energy market should look like.

The “Feed-In Tariff”(FiT)

Wikipedia has a great description.  While I do not endorse the described approach 100%, I do endorse the concept, which needs a uniquely American solution.  The method is often seen as part of an energy policy with respect to the electric grid.  The technique needs to be applied to all energy sources and uses.

“A feed-in tariff (FiT, feed-in law, advanced renewable tariff, or renewable energy payments) is a policy mechanism designed to encourage the adoption of renewable energy sources and to help accelerate the move toward grid parity.

What does it mean?  It means an energy policy designed to price the consumption of power equitably across all users of said power.  The actual structure of the policy will depend on the category of energy consumption and the fuel source.  Valuing all energy consumption as being equal is not appropriate.  For example, heating your house has different options than powering your car.  Consuming aviation fuel does not equate directly to powering electric lights at the office or at home.  Frankly, one round-trip to the Orient can consume more petroleum (per person) than most families consume in their lifetimes.

I get the need to avoid monopolies, but how can an economy exhibit “cannibalistic behavior?”

If the consumption of gasoline actually cost $2.69/gallon to collect, refine, distribute, store, consume, provide profits to investors, pay tax to governments, mitigate caustic clean-ups, pay the medical costs associated with related pollutants, and pay for the wars (valued in lives and treasure) needed to sustain its use, then there would be equity among the users of gasoline.  If you read the list of ‘costs,’ you will notice that several line-items are not included in any standard cost-accounting formula.  Most notably, the last three items are Humvee-sized loopholes in the system.  “Cannibalistic market behavior” is a term I invented to describe how the markets consume the consumer by foisting hidden costs indirectly on society (the consumer).  In some cases these hidden costs dwarf the actual price paid by the consumer for the fuel. 

Does the cost of gasoline include the cost of accident clean-up?  While some would argue “Yes.”  I would argue that the taxpayer’s support a clean-up by subsidizing the tax deduction of all these costs as common “operating costs.”  Tax law generally prohibits the deduction of government penalties (such as traffic tickets for speeding) but most of BP’s costs are “ordinary and necessary” costs of doing business.  BP likely intends to deduct 100% of their costs associated with the Deep-Water Horizon disaster and get 35% of those costs refunded in the form of cash payments of tax refunds.  My guess is they will land a few choice tax credits along the way for “energy” and “innovation” and “job creation” and who knows what else the D.C. purveyors of pork will provide.  Did the users of gasoline pay for these subsidies?  Some of them did—every American gasoline consumer will pay for 65%.  But every American will pay 100% of the remaining 35% in tax bennies courtesy of your elected representatives in Washington D.C.

What about the degradation in the quality of life caused by pollution created while burning the fuel (gasoline, or diesel, or coal, or wood, or garbage, or nuclear fuel)?  Do the users of gasoline pay to have all the pollution damage to health and property?  Not at the pump!  How about cancer or birth defects?  Did you pay for those at the pump?  Nope!

Most would argue that if it were not for our dependence on foreign oil, we would not be leaving our children’s blood in the sands of Afghanistan, Iraq, Kuwait, or elsewhere.  We would not be spending our children’s otherwise good fortunes using bone crushing deficits.  Did you pay for these costs at the pump?  Nope!  What would have been added to the cost of boat gas you used this weekend if it had included the value of this week’s Afghanistan casualties?  What’s a Marine Private worth to you?  Put a value on that!  Even if you split the difference with the value determined by his widow, you would still have to sell that boat to pay the bill.

Fifth grade economics lesson:

A fifth grader can understand that there are indirect costs associated with the consumption of traditional energy sources (substitute any caustic chemical reaction based fuel source: petroleum, coal, shale, atomic, wood, garbage, etc.) and some of those costs have been foisted on society.  These costs are HUGE and very real.  And they are measurable (with the exception of the loss of a Marine Private, which should be determined by his widow). 

Feed-In and Tariff is not perfect, but it’s a reasonable start.

Feed-In and Tariff should use scientific analysis, along with responsible economic costing, and a healthy dose of common sense thinking, to determine the real price to be placed on consuming a gallon of 100 octane aviation fuel.  Determine the cost of coal by including the cost of fixing (or at least preventing) the damage to our beautiful Minnesota waters caused by acid rain.  Recognize the cost of storing spent nuclear fuel rods for eternity when pricing electricity produced from the destruction of uranium by fission.  Recognize that the cost of refining iron ore into 5,000 lb of steel to make that 5 door SUV entails more energy than that vehicle will consume in the 1st 100,000 miles of its life.  Add a Tariff to each caustic fuel to properly value these consumables and bring parity to the “grid” of the fuel of choice.  Use the revenue to lower the cost of alternative energy sources by reimbursing the favorable producer for the added costs of being “green.”  Include renewable energy in the analysis but include all costs, direct and indirect.  When measured at the meter, or the pump, or the mine, an energy policy can use a free market to launch viable solutions to our economic and energy problems.  The market will determine what’s best if the system is established, monitored, and enforced.  In the end, we all win.

“On budget” versus “over time.”

Candidates seem to feel that they can spend the public’s money to subsidize activities designed to redirect our energy use.  Yet more fanciful thinking.  Private money will sign-on and invest treasure when the ideas make sense.  T. Boone Pickens abandoned his wind farm hopes.  Without public subsidy, the notion simply fails to cash flow.  Properly structured, FiT can provide the long-term element desperately needed to justify many alternative energy ideas because it de-politicizes the process.  The state’s budget will not be a factor in the equation.  A wind farm can take 15 to 20 years (or more) before it ever produces a nickel of net income.  Meanwhile, design weaknesses, damage caused by lightning or storms, or poor maintenance procedures can limit the life of these installations, making them a risky investment.  Photovoltaic installations (solar cells) deteriorate over time (loss of 20% at 10 years is not uncommon) and they are expensive.

Any orchestrated plan that involves a legislature or congress to appropriate future funds is simply unworkable.  Government cannot be a trusted partner.  A better approach is for the utility to contractually guarantee cash flow for the future production of energy.  Viable installations should be eligible to receive a binding contract on future production.  Produce the electricity and guarantee a payment for (as an example) 20 years.  This makes the system predictable while providing a preferred method of production.

An example is in order.  Let’s consider a grid-tied 20 KW photovoltaic (solar cells) system.  Let’s assume an initial investment of $60,000 with an expected life of 20 years.  Let’s further assume said installation can produce 60,000 KWH per year.  The only other operating costs are repairs ($1,000/year) and insurance ($500/year).  Expected market rate for electricity is $0.07/KWH.  Return on investment is 8%.

If the utility creates a transfer payment of $0.0651/KWH ($0.07 plus $0.0651 for a total of $0.1351) to the producer of solar power, and initiates a target of 20% energy from solar PV cells, the assessment on all users of the grid would be $0.013/KWH, an increase of 18.6%.  In the event the array lasts longer than 20 years, 100% of those remaining profits would go to the investor since the transfer payment would have returned 100% of his equity, with 8% interest added.  (assumed tax rate = 0%)  Drawback to this is the initial investment of $60,000.  (I’m ignoring the federal and state tax credit subsidies for this discussion.  What I’m offering here for discussion is an alternative approach to the current system.)

What if that initial investment is reduced to $22,500?  Borrow $48,000 at 6% for 15 years, spend $60,000, but expect a return of 8% over the 20 year life?  The additional total cash outlay is increased from $60,000 to $70,500 but the extra equity is needed to cash flow the operation in years 6 though 15.  The transfer payment would be $0.0628%.  A goal of 20% energy from PV suggests an assessment of $0.0126/KWH, or a 17.9% increase in the rate.

Now these cash flows are based on reasonable assumptions I invented for illustration purposes.  An excel spreadsheet is available HERE.  Perhaps after public debate it’s decided that a 2% return is all society is willing to support.  Using debt and all other assumptions being the same, the new transfer rate for 20 years would be $0.0455, or a surcharge of $0.0091/KWH, a 13% increase.  For most homeowners, that suggests an annual assessment of $171, or about $14/month.  Even more impressive is that the total cash investment drops from $22,500 to $16,000, making this a much more plausible facility.

Similar cost accounting methods can be applied to coal, nuclear, wind, tidal, etc.  The winner is the energy consuming public.  What is important is that the utility could be compelled to enter into a 20 year contract to guarantee a rate.  In the event technology develops to out-perform the contracted method, the investor is still able to recoup the initial investment by completing the project and carrying it the full expected life of the system.  If done properly, this contractual arrangement can facilitate bank financing.  It also eliminates the politicians from the equation.  Future budget blow-ups will not prevent the producer from being paid.

It is the long-term nature of the guarantee that introduces the magic.  Current political rhetoric, if executed, puts the investor square in the middle of every year’s budget battles.  No investor will be willing, and no banker will finance, when the only benefit available is a future government grant.

Net Metering versus Feed-in Tariff (FiT)

Minnesota is a net metering state.  This means that the power utility must buy, at the retail price, whatever power produced by the consumer over-and-above what is used.  While this produces a side-effect of making tax-free income, it also ensures the consumer that they are, at a minimum, receiving retail values for the excess electricity produced while continuing to pay retail market rates for what they consume. 

Under a typical FiT arrangement, a consumer producing power using preferred methods (solar, wind, etc.) would sell all power produced at a premium rate to the utility.  What power can be consumed is charged back at normal retail rates.  In my example, a 60,000 KWH household would receive approximately $0.13/KWH or $7,800/year, and spend approximately $0.08/KWH or $4,800 per year in electricity costs.  The excess would cover repairs, original investment, etc. (3)

In Summary:

Dialogue involving tax credits, job creation, and education grants, are not viable alternatives to developing a workable Feed-in Tariff program for not only the electric grid, but other forms of energy consumption.  Using a free-market approach is a preferred method of bringing meaningful changes to our energy needs.  De-politicizing the industry will go a long way towards eliminating the financial risks associated with government / industry partnerships.  Providing long-term solutions augmenting production is preferred to subsidizing initial installations, which can later under-perform for any one of a number of reasons.  The notion of ‘grid parity’ should be emphasized for not only the electric power grid, but all forms of energy consumption—including transportation.

 1 This document can be quoted, copied, and published granting proper attribution.


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Franchise Tax is Eliminating Jobs in Minnesota

Monday, June 21st, 2010
by Ford Peterson c2010 (1)

The land of 10,000 taxes…

Minnesota is the home to many corporate giants. Honeywell, General Mills, the former Northwest Airlines, Medtronic, US Bank, 3-M, and many more, located their worldwide headquarters right here in our back yard. Many of these are home grown companies, some of which were started in a garage and grown to be multi-national giants of commerce. Many of these companies are staffed by Union workers making excellent wage rates. All companies doing business here pay homage to Minnesota in the form of the corporate franchise tax. It is my belief that this tax is the root cause for the attrition of jobs leaving Minnesota year-after-year. The quickest way to reverse the trend is to eliminate the tax and once again make Minnesota a tax haven for business.

You cannot understand this complex topic without understanding its far-reaching tentacles. What follows is a tutorial on Minnesota’s franchise tax, as implemented through the Unitary method of allocating tax between states.

In 1967, the tax rate was raised to 11.33%. In 1971 it was raised to 12%. In 1981 the rate was reduced to 9% on the 1st $25,000 of income but remained at 12% for large corporations. The death blow to MN jobs came the same year when they also enacted the Unitary method of taxation. In 1987 they reduced the Unitary rate to 9.5% and started with federal taxable income. In 1990 the rate increased to 9.8% and a new fee (up to $5,000/year) was introduced.

In 2005 the legislature had the political will to address the hemorrhage of jobs, at least partially induced by the allocation formula, by passing some allocation reform. Beginning in 2007, the inter-state allocation weighting formula changed from 15% property, 15% payroll, and 70% sales, to 0% property, 0% payroll, and 100% sales, during an 8 year transition period ending in 2014.

The Department of Management and Budget estimated in February 2008 that the corporate franchise tax collections would be $1,034 million(2) for FY 2009. The actual collection for FY 2009 was just over $700 million(3) in 9.8% corporate franchise tax—almost 1/3 less than anticipated. That’s still a lot of money in a state whose anticipated deficit is upwards of $8 Billion for 2010-2011. The real question is, how did the corporate franchise tax alter sales tax, income tax, and property tax, after the Unitary method drove tens of thousands of jobs from the state since imposing Unitary back in 1981? We may never know!

Understanding the malicious nature of this tax policy is complex. In this paper, I will attempt to explain the subtle factors leading up to the imposition of the Unitary method. While some steps were taken in 2005 to reduce the job killing effects by 2014, much of the damage has already been done. It is my opinion that the trendy exodus of jobs can only be corrected through the complete elimination of the franchise tax—even then the correction may take as many years to recover as it took for the damage to occur in the first place (possibly 30 years). While some might argue that this gives big business a ‘free ride’ on Minnesota’s highways of commerce, it is clear that the propensity for these same big businesses to hire highly-paid Union workers is greater when disincentives for doing so are removed from the equation.

When it comes to corporate income tax, there are two types of corporations. An election can be made by certain shareholder groups to either be taxed at the corporate level (C-type), or the individual shareholder level (S-type, or pass-through entity).

S-type corporations pay no tax (other than fees). These are closely held pass-through corporations where the shareholders have agreed to add their allocated share of the company income to their personal tax return each year, and pay the tax personally. They pay the tax once whether they actually receive the money as a dividend or not. Dividends are deemed paid on the last day of the year (and effectively deducted from the corporation’s income subject to MN tax) and taxed at the individual shareholder level.

C-type corporations are groups who either a) cannot, because of the number of shareholders, be S-Corps, or b) choose to pay the tax at the corporate level AND at the personal level when dividends are actually paid. Unlike S-Corps, a C-Corp is unable to effectively deduct the dividend payment from income subject to MN tax. So dividends are paid to shareholders out of ‘after-tax’ income. This introduces the notion of “double taxation.” Income earned is therefore taxed once when the company makes the money, and taxed again at the individual level when the company pays out dividends from funds remaining after the franchise tax.

I’m oversimplifying the election by saying that corporations with few investors (‘closely held’ means less than 100 shareholders) made up of individuals and estates are eligible for S-Corporation treatment. Wall Street entities are excluded from electing S-Corp status because their shareholders number over 100 and often include other corporations, who are ineligible for S treatment. Suffice it to say, big companies are C-Corp and pay the double tax, and small companies are S-Corp and pay tax individually.

The franchise tax is imposed only on C-Corps. It is fair to say, large companies, large employers (often unionized employers) pay the franchise tax in MN. Small companies, and S-Corporations, pay only a filing fee between zero and up to $5,000 per year.

Minnesota used to be an incubator for business. Small business could become large entities without the entanglement and overhead of a high state tax. MN was also the home to large employers. How can this be? Minnesota has taxed business for decades prior to the Unitary tax. Prior to 1981, Minnesota taxed each separate corporation doing business within the state. Only those doing business here were required to pay a tax to Minnesota. Practical application of tax policy encouraged a business to locate high overhead activities within our borders. How did this work? A national or multi-national corporation usually owns many individual corporations. An illustration is in order. For purpose of illustration, let’s use an over-simplified example to understand.

XYZ Corporation of America, Inc. (parent)

XYZ of Minnesota, Inc. (100% owned subsidiary)
XYZ of California, Inc. (100% owned subsidiary)
XYZ of Florida, Inc. (100% owned subsidiary)

Only the parent’s stock appears on the New York Stock Exchange (or comparable). Profits from the subsidiaries roll-up to the parent through inter-company transactions. Often times one subsidiary manufactures a product and sells it to the other wholly-owned subsidiaries located all over the world.

If any of these individual companies had property, payroll, or sales within MN, there would be “Nexus” to Minnesota imposing the franchise tax based on that subsidiary’s income allocated by the property, payroll, and sales factors located within Minnesota. In any business, there is overhead associated with the operation of a facility and the staff to run it. When located in MN, this high overhead had Nexus with Minnesota, whereas the income did not.

In our example, let’s assume the headquarters is located in MN, along with the primary factory. The other subsidiaries purchase product from the factory and conduct their activities in other states. Suppose that subsidiary manufactured thermostats (or food, or air travel, or medical devices, or magnetic media, etc.) and sell their products world-wide.

Pre-Unitary Example

The headquarters and manufacturing facilities, along with related payroll, are located in Minnesota. Clearly the factory has Nexus to MN because they are not only located here, they also sell products to Minnesotans. These two corporations, headquarters and the factory, have Nexus and were always required to file a franchise tax return. However, subsidiaries located outside Minnesota have no Nexus. They buy product from the factory subsidiary and sell it elsewhere, but they have no Nexus (property, payroll, sales) within the state. No Nexus? No tax return necessary—effectively insulating the non-Minnesota subsidiaries from MN tax. MN was a tax haven!

Let’s further assume that each state consumes the same amount of product, for discussion let’s say product gets sold in 4 different states and $30,000,000 per state. The MN factory would receive income from the other states in the form of products sold to the other out-of-state subsidiaries and from products sold to Minnesotans. 100% of the property, 100% of the payroll, and only 33% of the sales are located in MN. Using the standard 15% / 15% / 70% = 100% weighting implied an allocation percentage of 53.3%. The Headquarter facility actually lost money, because its net income was a loss. So the Headquarters paid no tax even though 100% of its operations were within MN (100% of $0 is $0). The factory earned $1,500,000 nationwide. $1.5M x 53.3% x 12% tax rate equaled $96,000 of MN franchise tax.

In 1981, the Unitary method was introduced. Notwithstanding the many technical arguments for and against Unitary policy ‘fairness’ of allocation amongst the states, most companies find ‘fairness’ in paying less tax. The most notable argument for the Unitary method is that a company can easily ‘game’ the system to reduce their state tax burden—such as with favorable inter-company transactions, which have no shareholder consequence other than a reduction in state tax. The notion of gaming the system is perceived to be a good thing for shareholders and a bad thing for states.

Instead of considering each separate corporation and allocating the Nexus to MN based on property, payroll, and sales, the state demanded consideration of all the other corporations in the group—e.g. “Unitary.”

Unitary Example

Let’s use the same facts and circumstances, but impose the Unitary methodology. We now find that 87.5% of the property (primarily factory), 87.7% of the payroll (primarily factory and headquarters), and only 16.7% of sales, are located within Minnesota. Apply the 15% / 15% / 70% = 100% weighting and you have 37.9% allocated to MN. While 53% was allocated to the factory only income, 38% is now allocated to the whole company income. Instead of considering just the factory income, the entire national income acquires Nexus. Under the Unitary equation and current rates the same group of companies pays $922,000 of franchise tax to MN. Instead of $96K imposed when the rate was 12%, it is now $922K even though the rate is currently 9.8%. That’s nearly a 10 fold increase in franchise tax! Ouch! I’ll bet this got people’s attention back in 1981 when the rate was even higher (12%)!

Is this to say the corporate collections increased 10X starting in 1981? No! This example is provided as a reasonable illustration to describe the tax imposed under Unitary versus separate accounting methods. In practice, national companies operate in all 50 states and around the world. This example company (for clarity of illustration) only operates in 4 states. National companies have factories in many states. So this is an oversimplification. But it serves to illustrate the following truisms:

1) Factory PROPERTY located in MN has caused a portion of national income to be allocated to MN, even though no income may be arriving from within MN borders. Since 1981, and until 2014, locating property outside of MN has provided (and will continue to provide) relief from MN taxation.
2) Headquarters and factory PAYROLL located in MN has caused a portion of national income to be allocated to MN, even though no income may be arriving from within MN borders. Since 1981, and until 2014, locating payroll outside of MN has provided (and will continue to provide) relief from MN taxation.
3) The factor weighting formula (15% to property; 15% to payroll, and 70% to sales, changing to 100% sales by 2014) has a significant impact on the allocation. A national company has had 27 years to adjust its business practices to legally avoid MN taxation by locating business reorganizations and expansions elsewhere. The legislature didn’t recognize this to be a problem until 24 years of attrition had taken its toll on MN jobs. In 2005 the legislature voted to curtail the unfavorable practice and is changing the formula weighting over the next few years. By 2014 (33 years later) only MN sales will factor into the formula.

So what happens to our fictitious company starting 2014?

Beginning in 2014

Assuming the legislature and the Governor choose to keep the 9.8% tax rate, our little company will find some relief under the new “Sales Only” formula. The $96K at 12% (taxed separately) ballooned to $1,129K at 12% (under Unitary), then dropped to $922K with the current 9.8% rate. The new “Sales Only” formula at 9.8% would induce a tax of $405K. While this is a significant improvement, any company having already reconfigured their operations to a no-tax state(4) like, South Dakota, Washington, Wyoming, Utah, or even to a foreign country, would find no joy in re-locating high-overhead operations back to MN unless we make this a tax haven once again.

So what’s the solution? Economists generally believe apportionment formulas appear to be a tax on the factors(5). Eliminate the franchise tax. Much (perhaps all) the damage has been done through almost 30 years of jobs attrition. If eliminated, future changes in home-grown business operations would not need to consider the tax disincentives associated with the franchise tax when considering the option of locating operations here in Minnesota. If Minnesota was a safe-harbor, more jobs would locate here. More jobs equates to more personal income tax collections, more sales tax, and more property tax. Sounds like a win-win-win situation. A win for business, taxpayers, and the state.

1. Author grants permission to re-print with proper attribution.

Optimum Rate of Tax

Sunday, May 23rd, 2010

By Ford Peterson © 2010

Did you know that there was an optimum amount of tax?  It’s true.  There is a point where too little is being done as a community, and another point where the overhead becomes a drag on the economy.  As a portion of Personal Income, the federal government collects about 21%[1] and MN collects another 16%[2] for a total of 37% of Personal Income.  Is this too much?  Too little?  There is a way to determine the optimum.  The notion of Optimum Tax Rate is inseparably entwined with the population’s ability to Save.

A Call for Bigger Government

The DFL caucus is universally calling for more revenue.  With the economy on the ropes, loading additional burdens on people seems, at a minimum, counter-productive.  More than likely, additional burdens could even be destructive.   Calls to “Tax the Rich” are commonplace today, followed by cheers of hooray from the little people.  Guess what folks.  The “Rich” own Minnesota.  They own the engines of commerce, the banks that hold the mortgages, and the politicians hired to run the place.  Gouge the ‘rich’ and they extract more rent from everybody to compensate.  More than likely an aggressively progressive tax system would incentivize the rich to move away and avoid Minnesota (Oops!  Cook the Golden Goose and she stops laying golden eggs!).  Many argue that government is already too big.  Yet the seemingly endless line of people in need indicates to compassionate people that government is not big enough.  What does this have to do with tax rates and saving rates?  Let me explain…

Balanced Budget Multiplier

A balanced budget happens when revenues are sufficient to offset spending.  On a macroeconomic scale, the population as a whole is roughly indifferent to a balanced budget.  I liken it to scooping water out of one side of the pail and dumping it into the other.  The money circulates around and life is good.  There are two counter-balancing variables in this equation.  Consider the multiplier (over simplified but here goes) to be spending over revenues.  A balanced budget is 1:1 spending to revenue.  There are numerator (spending) effects and denominator (revenue) effects.  Understanding how this relationship is affected under various conditions allows us to answer the question: “Can we afford higher taxes?”  When 20% is extracted, and 20% is spent, we have a balanced budget.  When 60% is extracted, and 60% is spent, we still have a balanced budget.  Obviously the size determines who gets to consume the income.  Is it spent by the individuals that generated the revenue, or by society as a whole?  The overall size of the budget matters.  When is it optimum?  The equation is optimized when the budget includes saving.

Surplus Vs Deficit

Economists have long understood, and politicians have learned to amplify, a budget deficit will accelerate the circulation of money because the government is spending more than it is extracting.  Surplus of course means just the opposite.  When spending increases to exceed the extraction, money circulates quicker.  A budget deficit is therefore analogous to going on a spending spree with your credit card, or fueling consumption by liquidating your savings.  I don’t mean investing it, I mean consuming.  The federal government has the added luxury of being able to print money, which induces inflationary effects well beyond the scope of my thesis.  However, the state does not have the luxury of printing and is therefore limited to either: 1) borrowing; or 2) spending reserves; or 3) taxing.  Whether the government borrows the money or prints the money, as long as they spend more than they extract there is a positive budget multiplier in play (spending over revenue).  A ratio less than 1 is negative on the economy.  A ratio greater than 1 has a positive influence.  Although very difficult to measure accurately, the multiplier effect is universally known to exist.

So why not spin-up the economy by running only deficits?  Eureka!  That’s exactly what has been happening at the federal level for many years.  The natural limit on this multiplier is that we live in a world with limited resources.  The state’s limited cash reserves can quickly be depleted.  Politician’s can only borrow so much before credit ratings deteriorate and cost of borrowing becomes prohibitive or credit disappears.  Since the state cannot print money, it must therefore choose to eventually extract it from the people.  With the state, the Surplus / Deficit issue is all about timing.  Minnesota’s annual cycle arbitrarily runs from July through June.  Over time, consumption must be funded and credit lines must be paid.  Oh yes, silly me.  There is also the often used political trickery referred to as “kicking the can down the road.”  Can this be done forever?  Forever is a long time.  But I digress…

Forced Consumption Versus Saving

The government is not the only entity involved with the economy.  Each individual and business can run a deficit or surplus.  On the aggregate, individuals with more revenue than expenses can ‘save’ the money to spend later.   Businesses can build cash reserves (equity) using the very same principle.  And when they save, they are not consuming.  Increased consumption fueled by liquidating savings, or through additional borrowing, creates a positive economic multiplier.  And failing to consume revenue is a negative economic multiplier.  This creates a political paradox.  It is good for my personal economy when I save, but it’s bad for the entire economy when anybody saves.  Yet saving for future need is paramount to the sound management of resources.

The government resolves the paradox by choosing a rate of tax.  By spinning more money through the treasury, the ability to save is limited.  The government can force you to consume by extracting the money and consuming it for you.  Sounds evil doesn’t it?  In large measure, they spend it on each of us in the form of infrastructure and presumably ‘necessary’ services.  Everybody wants roads, bridges, sound banking, personal safety, courts, police, fire, schools, welfare, etc.  If the proxy spending sounds evil, get over it and figure out how you want to pay for the shared consumption, or help figure out what we can do without.

Over time, the winners and losers fine-tune the tax code to conform to the political winds blowing—lobbying to get somebody else to pay.  Eventually it gets tweaked again, loopholes disappear, and inequity gets evened out.  Ultimately, in an otherwise benevolent and democratic society, the rate of tax settles around ‘from each according to his ability, to each according to his need.’  This of course is a quote right out of a text on Marxism[3].  That’s scary!  Please don’t shoot the messenger.  Redistribution is a well understood procedure, promulgated by your government.  But again I digress…

Ability to Save is the Barometer

So the rate of tax is too high when saving becomes too low.  What is too low?  We each view the room from our respective corner.  A biased opinion would suggest that all the money I can save is good for me, and any money you save is bad for me.  Obviously this is the extreme position at the microeconomic level.  In my unbiased opinion, any macroeconomic budget that includes some saving is more reasonable than a budget with zero or negative saving.  Bad things can and do happen to good people, and to the nation, or to the states within.  Saving for that rainy day is imperative to prudent management of money.  The same is true of individuals, business, and government.

What is Saving?

Good question.  Economists consider saving to be the act of setting income aside to conserve it for future consumption.  Investing is something you do after you have saved it.  So don’t confuse investing with saving.  Saving is simply NOT consuming it today.

Why don’t economists consider the family residence in the ‘saving’ equation?  In some respects paying for the family residence is an act of setting money aside, but it’s different because buying a house is not necessarily consumption.  If everybody built a brand new house, and nobody recycled old houses, then building a house would look more like consumption.  Remember, the definition of ‘saving’ is setting income aside to conserve it for future consumption.  The home does not fit this definition.  Increasing home prices would have suggested some windfall saving in addition to the mortgage payment—especially in an environment where people pull the equity every 3-4 years and consume it.  Decreasing values have the opposite effect.  In any event, including a personal residence as saving doesn’t fit the measure we are looking to use as a guidepost to striking a balance regarding: “How high a rate is too high?”

It is interesting to note that the United States used to measure savings in the form of M3, an empirical measurement of the components of savings.  In November 2005 the practice of disclosing it was discontinued.[4] Rest assured the minions in charge of our currency are tracking it.  They simply don’t want the people to be concerned about policy or practice.  Today the people can only estimate the rate of saving.  It is believed that the rate of saving in America is now zero.[5] The implication is that we are officially over-taxed making this a perfect time to cut spending and the rate of tax.

Individual or Shared Responsibility

The implication of saving seems obvious.  To be clear, if you have no savings, your needs will eventually overtake your ability to provide for yourself.  In America we have a complex maze of social safety nets funded by individual responsibility (insurance, saving, etc.), private charity (homeless shelters, etc.), and government institutions (Social Security, Medicare, Medicaid, welfare, etc.).  Pressure from an aging population coupled with abuses imposed by foreign invaders has brought these social structures to the brink of failure.[6]  Individual willingness to consume to the point of zero saving implies a willingness to consider complete reliance on government to provide in a time of need.  People stopped saving after government convinced them that society will provide.  Of course this notion is not correct, or in any event unsustainable.  We need to change the equation.  Lower the tax and increase the expectation that personal responsibility will be rewarded.

Timing of Save Versus Tax

In an effort to de-politicize currency issues, the United States has delegated the responsibility of managing our currency to the Federal Reserve, the Chairman of which is appointed by the President.  Artificially establishing the rate of interest has been used as the lever to suppress an over-cooked economy, or stimulate an economy in need of vitality.  The lever has been effective at securing a relatively constant rate of inflation.  But the mechanism is broken.  Interest rates are at zero.  Being in possession of savings has been rendered valueless!  This traditional method imposes a significant burden on those accumulating savings to provide for retirement, etc.  We are also watching in dumbfounded amazement as Billions are being paid as bonuses to bankers standing in the money stream of access to free money.  A more fair method would impose a variable tax on the people, accumulating reserves during the good times and providing stimulus during bad.  We all watched in horror as the price of oil skyrocketed, and witnessed the negative implication of this added “tax” on the people.  doubly offensive was the realization that the additional tax burden was being paid as profit to nations who hate our very existence.  Perhaps a high but variable rate of tax on oil is the answer?  It would work, but how do you de-politicize this function?


In this age of hyper-capitalism[7], a tax is imposed based on needs.  Those with more income and means are taxed higher than those without.  Don’t shoot the messenger; let’s deal with the dilemma of balancing needs and surplus.  Increasing community supported infrastructure may be warranted when the population is in an economic surplus, measured by its ability to save.  In an absence of surplus, extracting less revenue will stimulate the economy.  In the current zero saving environment, spending must first be reduced to equal the extraction.  The tax must then be reduced even further to bring the economy back into equilibrium without adding to the already skyrocketing debt.  The only reasonable answer is to reduce the size of the government budgets, reduce the burden we have asked government to impose on society.  And do so by reducing the Treasury’s public consumption. 

The Chinese people have been saving at record rates and are fortunately buying our national debt[8].  Eventually, the foreign governments structured with policies that encourage saving may realize they too will need to force consumption on their people and raise the tax to do so.  When they raise the rate of tax in those countries, the saving rate in those countries will correspondingly slow, just as it has for those of us in the United States.

Be an informed voter in this November’s elections.  The size of government will be determined by those you elect to represent you.  Be informed.  Demand position papers.  Hold their feet to the fire when they deviate from their elected path.  Don’t be misled by disingenuous rhetoric like “Tax the Rich.”[9]

The opinions expressed are those of the author.  No politicians were injured in the delivery of this message.  You are free to copy and quote giving proper attribution to the author.


[1]  Table 17-1 on pp 245.  18% of GDP equates to approximately 21% based on personal income, a more meaningful measure of available spending.

[2]  See the graph on page 1.  The average of years 2006 through 2011 is 16.05%.  It varies up and down between 15.5% and 16.5%.





[7] Hyper-capitalism is defined here to describe where one party to a transaction is indifferent to the social consequences.  Sale of tobacco, abusive banking practices, legal gaming, etc., are good examples.



The 10th Amendment

Saturday, April 17th, 2010
The powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people.


Obama’s policies have awakened the masses.  The great awakening of 2010 has ignited a fever that promises to put the federal genie back into his bottle.  I hear people angrily grieve over the recent abominations coming from Washington.  The blogosphere is awash with condemnation of socialism in any form.  The Nationalization of business-after-business sends shock waves through Main Street.  Even the left leaning centrists find themselves taken aback at the speed and amplitude of the march towards the left coast of progressivism.

Minnesota has been a good federal citizen.  We pay our taxes to the Governor, and to the President.  We enjoy the finest health care, education, and recreational facilities, which are the envy of the world.  Ask yourself: Do the federal mandates on education improve our education institutions?  Do the federal mandates on healthcare improve our healthcare?  We let the feds bribe us with our own money to effectively downgrade our social systems. As a state, we have done poorly at taking the federal money.  Why?  The bribes are not a good deal.  Our social systems are not broken.  Our passive demeanor has cost dearly.  “Minnesota nice” needs to end when it comes to the Federal Government.

According to the Tax Foundation, in 2005 Minnesota paid $40.6B in federal taxes.  The feds only spent $31.1B within our border.  $9.5B left the state in the form of federal taxes.  Considering that the entire Minnesota budget flows on about $20B/year, this is a gargantuan hemorrhage of Main Street blood—i.e. money.

Which states win the battle for the federal dollar?

State Federal Profit
 Virginia     34,912.3
 District of Columbia     31,124.2
 Louisiana     19,064.7
 Maryland     17,542.3
 Alabama     17,385.5
 Mississippi     13,747.0
 Missouri     13,102.2
 Kentucky     12,649.7
 Tennessee     12,415.8
 Pennsylvania     11,563.3
 New Mexico     10,712.8
 South Carolina       9,333.2
 Arizona       8,650.5
 Oklahoma       8,064.8
 Ohio       7,577.1

Click on the link below for the list of winners and losers.


DC is #2 and is not even a state!  The Tax Foundation chose to provide the information this way.  You can effectively add DC to Maryland and Virginia and make this postage stamp-sized area an $83.6B hole draining the swamp.  And this is every single year!

From a Macro-Economic view, the hemorrhage on Minnesota’s main street is unsustainable.  Let’s look at it from the Balance Budget Multiplier point-of-view.

Balanced Budget Multiplier

Wikipedia defines a Balanced Budget this way…

A balanced budget is when there is neither a budget deficit nor a budget surplus—when revenues equal expenditure (“the accounts balance”).

Wikipedia further defines the Balanced Budget Multiplier thus…

Because of the multiplier effect, it is possible to change aggregate demand keeping a balanced budget. The Government increases its expenditures, balancing it by an increase in taxes. Since only part of the money taken away from households would have actually been used in the economy, the change in consumption expenditure will be smaller than the change in taxes. Therefore the money which would have been saved by households is instead injected into the economy, itself becoming part of the multiplier process. In general, a change in the balanced budget will change aggregate demand by an amount equal to the change in spending.

In more simplistic terms, when Uncle Sam runs a deficit, he spends more than he extracts from the public.  Over time, a deficit neutral budget is in equilibrium.  When Uncle Sam extracts more than he spends (never happens), a detrimental effect is imposed on the economy.  The more he spends, and extracts, the less you will be able to save—thus forcing consumption rather than saving.

Likewise, when Uncle Sam chooses to print money, you get a big multiplier effect from the initial spending, which does not require the extraction of a tax.  The Federal Reserve has the authority to issue more money and does so by giving it to the government to spend.  An economic benefit is the immediate result.  A continual expansion of the money supply will eventually result in inflation.  Left unchecked it will lead to hyper-inflation.

The effects are no different than the extravagant lifestyle you could experience by tapping out all your savings accounts and credit lines.  What a party!  Eventually the party will be over and the resulting debt will be crushing.

The world is a big place.  I view the world from my corner.  And when government extracts it from me, and spends it elsewhere, I don’t enjoy the flow.  I liken the process to filling buckets.  If extracted from my bucket, and later spending it on my needs serves to refill my bucket.  I’m somewhat indifferent because my bucket remains full.  When my bucket is drained and used to fill other buckets, I’m no longer indifferent–I’m drained!  It is this final scenario facing Minnesota.  The US Government drains $9.5 Billion from our local economy each and every year.  The effect is crushing Main Street.  While some believe Secession is the only answer, Cessation, or stopping the drain, is the only answer within reach.

The Solution:

What’s the solution?  Stop the outflow of money.  We need to find and elect a Governor willing to challenge the federal government on their unconstitutional mandates.  Order the population to surrender their federally imposed tax to the Minnesota Treasury instead of to the IRS.  To the extent the Federal government demonstrates constitutional reasons for extracting a tax on Minnesotan’s, the Governor can write one check satisfying the obligation.  Meanwhile, the Governor can use the money collected to provide for the various constitutionally authorized activities within Minnesota.  State’s rights are real.  Education, Public Safety, Public Health, are all within the State’s authority to manage.  Using this method of collecting the tax, the federal genie can stay in his bottle and tend to the business authorized by the US Constitution.

Inspect This!

Friday, April 2nd, 2010

Minnesota has inspectors for just about every possible activity. The burden is inestimable at this time.

Dairy Inspectors
Health Care Facility Inspectors
Public and Charter School Inspectors
Electrical Inspectors
Rental Property Inspectors
Asbestos Inspectors
Building Inspectors
Fish Farm Inspectors
County Weed Inspectors
Ag Program Inspectors
Game & Fish Storage Inspectors
Lead Inspectors
Locomotive Inspectors
Manufactured Homes Inspectors
Meat Inspectors
Mine Inspectors
Municipal Waste Inspectors
Mutual Insurance Inspectors
Plumbing Inspectors
Motor Vehicle Inspectors
Water Conditioning Inspectors
Weed Inspectors
Wild Animal Inspectors


These are just a few of the mandates to ‘inspect’ found in the MN rules. I’m certain there are more layers of inspectors sanctioned by county and municipal boards all over the state. This begs the question… What constitutional mandate is satisfied by all these inspectors?

Well understood management principles teach us that decisions should be pressed down to the lowest level of responsibility. Relying on an inspector or supervisor’s review to identify and correct all possible mistakes is a futile and inefficient process. You cannot inspect every activity all of the time. But you can place the burden of compliance down to a level most capable of identifying and correcting problems. The installer of an apparatus is the party most likely to locate and fix a problem with the installation. Instead of laborious inspections, the state can provide assurance that the public is protected through insurance, minimum performance criteria, and warrantee expectations.

The state should never be performing activities that contribute to profitability. Food inspections in general are focused on bacteria and disease. Introducing infestations into the food supply can destroy entire truck loads of cargo and contaminate production lines. This is a profitability issue for the producer, the processor, the retailer, and the consumer. There is no need for a state inspection as the penalty for improper operation is a natural outcome. The interested parties have a natural incentive to produce disease-free products or face the consequences of loss due to negligence. Current reliance on the state inspection process provides a false sense of security at a very high price.

When possible, traditional ‘inspection’ processes can be implemented by a “peer review.” For example, an electrical, plumbing, or building inspection can be conducted by asking a knowledgeable party to review, criticize when necessary, and accept co-responsibility for adequate compliance. When appropriate, the peer review can be conducted on a sampling basis and possibly by an industry association funded by the interested parties.

To safeguard the public, providers of service or products should be expected to maintain insurance policies suitable to compensate injured parties, including state investigation and mitigation costs, in the event of failure. Insurance companies establish premiums based on risk. When appropriate, they can request or require the insured to submit to voluntary reviews to determine compliance and corresponding risk. Failure to conduct adequate oversight will induce onerous penalties, which provides a natural incentive for the parties to maintain compliance. The invisible hand of natural motivation is far superior to the state’s heavy boot at the throat of industry.

Each viable industry in Minnesota has a trade association—in some cases, many associations. These associations should develop suitable self-regulating criteria to eliminate the state’s mandate to ‘inspect.’ Individual failures should have implications for the whole industry. Once again we see how natural consequences provide incentive to self-regulate instead of relying on a false sense of security provided by over-worked state inspectors.