Tag Archives: crony capitalism

Perverse Incentives

I know this chart has probably been floating around the Internet for a while, but I recently came across it, and it really made me think.

The chart lists 30 major corporations, their profits for 2011, the amount of taxes each paid that year, and the amounts they paid lobbyists. A majority of those listed  paid zero taxes on massive profits, thanks to various provisions of the tax code. Many of them actually got money back, again, courtesy of those same arcane provisions. Virtually all of them spent millions of dollars lobbying the federal government; in every case, the amounts spent to influence policy far exceeded the amounts paid in taxes.

What’s wrong with this picture?

There are often sound reasons for using the tax code to encourage behaviors that benefit the greater society. If we want more energy, for example, and we recognize that the costs of exploration and the risk of coming up dry are high, it makes sense to provide a tax incentive to ameliorate that risk. If we want businesses to modernize, to invest in equipment that will make them more productive, offering them the ability to write off those investments over the useful life of the equipment is reasonable. There are many other examples.

The problem comes when the incentives bear no reasonable relationship to the behaviors they are intended to encourage–when those well-compensated lobbyists manage to persuade lawmakers to favor their clients by inserting special provisions in the law or special treatment in the tax code. In the case of oil and gas, for example, companies have not only benefitted from obscenely favorable tax provisions, but have negotiated leases of public lands on terms that have been widely criticized as giveaways.  Here in Indiana, Leucadia–a politically well-connected energy company–will benefit from a 30-year agreement with the state that effectively shields the company’s new coal gasification plant from unfavorable market conditions. 

Leucadia is hardly an isolated example. There’s a reason someone coined the term “crony capitalism.”

The well-connected and powerful have always been able to influence policy. To a certain extent, it’s an unavoidable aspect of human society. But in 21st Century America, we are dangerously close to corrupting the system, eviscerating checks and balances, and institutionalizing a caste system. Recent studies have documented America’s depressing loss of social mobility. Headlines routinely report the self-dealing of Wall Street bankers and financiers, along with the outrageous salaries and bonuses that bear no relationship to their performance. Jack Abramov, the disgraced lobbyist whose name has become synonymous with K-Street and Washington deal-making, is trying to rehabilitate his reputation in interviews sharing “chapter and verse” of influence-peddling in the nation’s capital, and the picture he paints is not pretty.

Local business-people, shop-owners, mom-and-pop enterprises and other middle-class Americans go to work every day, follow the rules, and pay their taxes when due. They don’t have agents working the halls of the legislature to get them special deals. They don’t have hundreds of thousands of dollars to contribute to Super-Pacs, and Citizens United didn’t free them to donate megabucks to buy a Congressman or two.

Shouldn’t the major corporations that are profiting so handsomely also be paying taxes to the country that makes those profits possible? Those companies depend upon workers educated in our public schools. They rely on our courts to enforce their contracts. Their trucks drive on roads paved by American taxpayers. Tax-supported police and fire-fighters protect their warehouses. Why do they prefer to pay millions to lobby for special advantage rather than simply using that money to pay their fair share of the costs to maintain our physical and social infrastructure?

What are the incentives that lead those who are already rich and privileged to seek even more by gaming the system?

Champions of Free Enterprise…Not

The phrase that sums up so many of the sweetheart deals our elected officials seem to favor is “socialization of risk, privatization of profit.” It’s a phrase that perfectly describes the boondoggle that is the Rockport Coal Gasification project in Southern Indiana.

I first heard about Rockport when the plant was being built, from a relative whose company has a contract to work on the construction. He couldn’t believe the waste he encountered. As he noted, however, construction managers can afford to get sloppy when they know the burden of cost overruns will be borne by the rate-payers.

Then I had lunch with an acquaintance who’s spent 30+ years in the energy business. In the course of our conversation, he referred to the deal as “crony capitalism,” and explained how it began and how it will work: When gas prices were high, Leucadia National Corporation proposed building a plant in Rockport to turn coal into synthetic natural gas. The company would then enter into long-term, fixed-price contracts to sell that synthetic gas to utilities. This would provide a hedge against volatility and escalating prices–at the time, those rising prices were thought to be inevitable. Instead, thanks to fracking and other measures taken by the gas and oil companies, gas prices plunged, and the deal didn’t look so good. The utilities lost interest.

Mark Lubbers, a longtime confidante of Governor Daniels, is CEO of Leucadia. He evidently prevailed upon the Governor to enter into a deal that will protect Leucadia from the pesky risks of that free market Republicans claim to revere. The State stepped in to buy Rockport’s gas at a fixed price for 30 years; the state will then turn around and sell it to the utilities on the open market. “Profits” from the sales will be split between the company and the state. Losses–which are far, far more likely–will be eaten by the ratepayers. In other words, you and I assume the risks. Leucadia gets the rewards.

According to The Indianapolis Star, the deal will add $1.1 billion to Hoosier energy bills over eight years.

If the financial chutzpah this deal represents weren’t enough, environmental advocates are highlighting environmental and health risks attendant to the project. Yesterday, representatives of the Sierra Club, Citizens Action Coalition and Community Action of Greater Indianapolis called on Citizens Energy to defend its ratepayers and join Vectren in objecting to the deal. (Since Indiana’s Court of Appeals recently overturned the contract between Indiana and Leucadia, on grounds not relevant to the basics of this cozy deal,  folks who object to going forward have another “window of opportunity” to derail it.)

The economic justification for high returns on investment, high salaries and big profits, is the element of risk. It’s a truism of genuine markets: No risk, no reward. When entrepreneurs invest in new enterprises, they put those investments at risk. If and when the new enterprise succeeds, they deserve to profit.  This is called capitalism, and it has produced higher standards of living than any other economic system yet devised.

I don’t know what you call incestuous arrangements like Leucadia, or all the other cozy deals where well-connected businesses get to use taxpayers as hedges against market risk.

But it sure as hell isn’t capitalism.

Welfare Dependent

Since the Romney campaign is making welfare recipients a central focus of their advertising barrage, maybe it’s time to take a closer look at the identity of those who are–pardon the vulgarity–”sucking at the public tit.”

Common Dreams has published a list of entitlements, and who gets what. According to their analysis, social welfare programs cost taxpayers some 59 billion dollars a year. Corporate welfare, on the other hand, costs us much more.

What do they count as corporate welfare? Well, fossil fuel industries get more than $70 billion dollars annually in subsidies–most of which goes to the oil and gas sector. Another $58 billion a year is lost to the Treasury by reason of tax “deferrals” for off-shore profits. Taxing capital gains at 15% rather than at the rates imposed on wage and salary income costs another $59 billion, while hedge fund managers are able to avoid some $2.1 billion in taxes each year due to something called “carried interest.” (I have absolutely no idea what that is, but then, I’ve never been a hedge fund manager, never represented one when I was a practicing lawyer, and never even played one on TV.)

And those are just a few of the garden-variety, built-into-the-system subsidies. The bank bailout cost us $700 billion. And while most of that was apparently paid back–and we really did have to avert a global meltdown–the terms of those “loans” could have been less favorable to the banksters and more protective of the rest of us.

When I read these numbers, I was dubious about their accuracy. Everyone seems to be playing fast and loose with the facts these days, and Common Dreams is a liberal-leaning organization. So I did some research, and  found verification in an unlikely place–Forbes Magazine. Here’s a quote from a Forbes article on the deficit:

Among the most outrageous expenditures is corporate welfare. Desperate businesses now overrun Washington, begging for alms. Believing that profits should be theirs while losses should be everyone else’s, corporations have convinced policymakers to underwrite virtually every industry: agriculture, education, energy, housing, manufacturing, medicine, transportation, and much more.

My Cato Institute colleague Tad DeHaven has published a new study, “Corporate Welfare in the Federal Budget,” on business subsidies, which he figures to cost about $100 billion a year. Slashing corporate welfare obviously won’t balance the budget—which is why middle class and defense welfare also have to go on the chopping block. However, cutting business subsidies would be a good start to balancing the budget. Moreover, going after corporate welfare is essential to create a budget package that the public will see as fair.

Not every subsidy is bad policy, of course. There are sound reasons for encouraging some new enterprises, or saving endangered ones. (I’d argue that rescuing the American automobile industry averted catastrophic economic losses.) But those reasons need to be publicly vetted, debated and justified. Right now, we have ample reason to believe that most corporate welfare is the result of cozy dealings between  campaign donors, lobbyists and legislators. There’s a reason it’s called “crony capitalism.”

Before we nod approvingly at the self-righteous candidates who are beating up on those “shiftless” poor folks, maybe we should take a closer look at the other end of the income spectrum. Maybe we should look at the well-fed and prosperous folks who are so un-self-aware that they don’t even recognize that they are just as dependent on welfare as the people they like to diminish and scorn.

TIFS as Crony Capitalism?

I’m on the mailing list of the libertarian Cato Institute (and the Republican and Democratic parties, among other strange bedfellows). I am fond of Cato–not because I agree with them on very many issues, but because–unlike the Republican Party–they are intellectually consistent. So I was very interested to receive a (snail mail–no link) report titled “Crony Capitalism and Social Engineering: the Case against Tax-Increment Financing.”

For those of you unfamiliar with TIFs, the concept is fairly simple. In order to induce development of projects that would not otherwise be economically viable (sometimes called the “but for” test, as in “but for the economic assistance, the project wouldn’t be built), the municipality caps the property taxes at the rate being paid prior to the new development, and plows the added taxes into the development for a period of time, in order to bridge the gap.

The Executive Summary makes several points:

1) By diverting the “extra” tax dollars generated to the project, those dollars are lost to the schools, libraries, fire departments and other urban services. In a sense, those services are also subsidizing the development. (To which proponents of TIF financing would respond, yes, but if the project would not otherwise get built, and if the abatement ends after a reasonable period of time–after which those urban services do receive the extra income–everyone benefits.)

2) Studies have shown that cities are not really applying the “but for” test. Many of these projects would have been built without the extra help. (Whoops!)

3) The new developments impose added costs on schools, fire departments, etc., so other taxpayers are either subsidizing the added burden imposed by the development until such time as the abatement ends, or getting reduced services during that time.

4) No matter how well-intended these programs, officials will often give in to the temptation to use TIFs as a vehicle for crony capitalism, providing subsidies for developers who in turn provide campaign funds to those same officials.

The Cato report has other problems with TIF financing, primarily because it is often used to support denser in-city developments over suburban low-density ones. In my opinion, that’s an argument FOR rather than an argument AGAINST–as the techies might say, that’s a feature, not a bug. But it is hard to argue with their other criticisms.

This is what makes policymaking so difficult. If  TIFs are used as originally intended–and used selectively–they can be a very useful tool.  When I was in city hall, in the early days of their use, I was a proponent. But at that time, TIFs were being used by urban governments to level the playing field–to compete with the lower costs of suburban development. Over the years, the tool has been adopted by smaller bedroom communities like Carmel and Greenwood–and developers have learned to play “let’s make a deal,” in essence turning TIFs into bargaining chips. One result has been that the “but for” test is history. And when the “but for” test was gone, so was the original justification for the program.

Unfortunately, selective use of TIFs has gone the way of the “but for” test. Here in Indianapolis, if news stories are to be believed, the Ballard Administration is proposing to turn the whole urban core into TIFs. (Okay, maybe I’m exaggerating a bit. But not much.)

It’s just further evidence that the Cato report is correct when it notes that TIFs have “become a way for city governments to capture taxes that would otherwise go to rival tax entities such as school or library districts.”

Wealth and Power

For the last few years, there’s been a good deal of debate over the growing gap between the rich and everyone else.

We’ve all seen the numbers: the top 1% of Americans own 43% of all the nation’s wealth, and the next 4% owns another 29%. Meanwhile, 80% of Americans share only 7% of the nation’s total wealth.

That bare fact is troubling enough–disparities of this magnitude typically generate resentment and often lead to significant social disruptions–but the reasons for that gap are even more worrisome. The truth of the matter is that money buys access and power. Poor folks don’t have lobbyists, they don’t make significant political contributions. To use academic jargon, the poor lack “voice.” Meanwhile, the rich have megaphones.

Look at the proposals to cut the deficit–a deficit caused primarily by two ill-considered wars (wars that “coincidentally” enriched a number of major corporations) coupled with massive tax cuts for the wealthy. Programs at risk include things like early childhood education, low-income housing programs, community health centers, family planning and job training–all programs that assist poor Americans. It’s estimated that cuts to these programs will “save” 44 billion dollars (save is in quotes because most of these are short-term savings with significant long-term costs). Meanwhile, the recent extension of the Bush tax cuts to the richest 2% of Americans cost the treasury 42 billion a year. Changes to the estate tax–dubbed the “death tax” by opponents–cost another 11.5 billion.

Let me be very clear: I accept the argument that confiscatory tax rates dampen innovation and entrepreneurship. And I not only accept, but heartily endorse market economics. I’m a capitalist and make no apologies for that. But American tax rates are at their lowest levels in fifty years, and one would have to be delusional to believe that returning the top rate to 39%–the rate during the Clinton administration–would discourage investment. What is even clearer is that we have abandoned markets in favor of crony capitalism. Large employers and the wealthy have used their clout to game the system; they have effectively bought tax and other advantages that have had the effect of protecting them from the very market forces they so piously invoke.  Instead of a genuinely free market, where businesses compete on a level playing field, we have an economic oligarchy–an Animal Farm where some are much more equal than others.

This state of affairs is bad for the economy in the long term. It is worse for social stability and democratic institutions.