We hear so much about “income inequality” and the “wealth gap” today, especially as the field of Democratic Presidential candidates gets ever more crowded and the political spinning accelerates. What I wonder is will any of these candidates talk to the underlying issues and connect the dots for the American people, or just do the old Potomac Two Step and spin, spin, spin…..? I would add Republican candidates also but we already know who that likely candidate is, and we can surely count on spinning there.
- In 1982, in an effort to rein in inflation, Congress passed a lot of legislation; aside from changes to the tax code, monetary policy, etc. it passed a law that for the first time in American history made it legal for public companies to buy back their own stock (in the SEC it is Rule 10b-18); previously, to do so was justifiably considered a stock market manipulation. Stock prices at the time, like most prices, were grossly inflated and the fear was a bubble.
- In 1991, in an effort to rein in corporate executive pay, which was considered a symptom of income inequality, Congress passed a law limiting the corporate tax deduction for executive pay to $1M (it is Sect. 162m in the IRS Code); executive benefits like stock options were exempt, principally because an option is not ownership until exercised, and not money until the stock is sold and becomes either capital gains or loses.
- In an effort to create liquidity during the Great Recession, the Fed and the UST went on a binge euphemistically called QE. The result was huge inflation of the monetary supply (economists refer to it as M1) and record low to non-existent interest rates.
- If we judge the effect of all the above solely on Wall Street, we have a record Bull Market; if we judge the effect on Main Street, i.e. jobs and wages, not so much. I’ll note the job thing more later.
So where and how did this issue start? It is not new as American History is loaded with examples, but too much to go through all that here, so let’s focus on some recent events:
- In 1982, in an effort to rein in inflation, Congress passed a lot of legislation; aside from changes to the tax code, monetary policy, etc. it passed a law that for the first time in American history made it legal for public companies to buy back their own stock (in the SEC it is Rule 10b-18); previously, to do so was justifiably considered a stock market manipulation. Stock prices at the time, like most prices, were grossly inflated and the fear was a bubble.
- In 1991, in an effort to rein in corporate executive pay, which was considered a symptom of income inequality, Congress passed a law limiting the corporate tax deduction for executive pay to $1M (it is Sect. 162m in the IRS Code); executive benefits like stock options were exempt, principally because an option is not ownership until exercised, and not money until the stock is sold and becomes either capital gains or loses.
- In an effort to create liquidity during the Great Recession, the Fed and the UST went on a binge euphemistically called QE. The result was huge inflation of the monetary supply (economists refer to it as M1) and record low to non-existent interest rates.
- If we judge the effect of all the above solely on Wall Street, we have a record Bull Market; if we judge the effect on Main Street, i.e. jobs and wages, not so much. I’ll note the job thing more later.
So how are these dots connected, and what does it mean for these issues today? Well, here goes:
- I believe the government and the SEC were wrong in making public company stock buy-backs legal; while there may have been good intentions, it is such an apparent vehicle for manipulation of markets that any benefits are clearly gained at enormous risks.
- Wage and price controls simply don’t work and create huge distortions. By attempting to limit executive pay, the government put corporations, who constantly compete for top talent, looking for other ways to stay competitive; many took a huge risk and offered stock options. Executive talent had no choice as the baseline compensation was legislatively set.
- Now there is no legislation that effectively controls greed in a free society, and most attempts compound the vice, and this was no exception. The market awards performance, stock markets included. Performance in stock markets is measured by EPS, i.e. earnings-per-share. If you are a top corporate executive (CEO, CFO, COO, CIO….) you had better make sure the EPS is good, or the market will hammer your stock price, and you’ll be shown the door.
- Couple the above with stock options in compensation and these execs see a win for corporate profits, shareholders, and of course themselves.
- So the easy play is to direct corporate profits to buy-backs, and away from capital investment in plant, staff, etc., i.e. real growth. In 2018 US corporations as a whole actually spent more on buy-backs than capital investment.
- Now add to all this really cheap money, and you get the volatile mix of debt and greed gone viral. The corporate debt issue is huge, but greed turns a blind eye, until someone raises rates; another time for that problem.
- So we have capital directed to stock manipulations at the expense of real economic growth, creating more for the top and little opportunity for decent jobs and wages
……..and so here we are where the rich get really, really rich on what we would consider a giant Ponzi scheme if practiced by private citizens. Even if we assume that the Government’s interventions in 1982 and 1991 were made with “good intentions”, we have the classical case of unintended consequences because they did not think thoroughly enough about how these ideas would play out if they put them into law. If we assume otherwise, we have to think not so very nice thoughts about who were the real intended beneficiaries.
So before either party, or an independent, talks about government solutions to this issue, they need to look at history and find a better way….and considering the looming private, corporate and government debt crisis, maybe not wait until 2020.
#EASYMONEY
Libera Voce 