- Money Morning Australia

Watch What the Rich Do, Not What They Say


Written on 16 August 2011 by Kris Sayce

Watch What the Rich Do, Not What They Say

“Back in the 1980s and 1990s, tax rates for the rich were far higher, and my percentage rate was in the middle of the pack. According to a theory I sometimes hear, I should have thrown a fit and refused to invest because of the elevated tax rates on capital gains and dividends.”
– Warren Buffett, op-ed, New York Times

Mr. Buffett says the U.S. Congress should raise taxes on the rich.

He says he’s so rich he should pay more tax.

Then why doesn’t he?

According to the U.S. Treasury, during the 2010 financial year $2.8 million was donated as “Gifts to reduce debt held by the public.”

That’s right. Americans who choose to can make voluntary contributions to the U.S. Treasury to cut the national debt.

Trouble is the U.S. has a national debt over USD$14 trillion.

That meant, in 2010 the U.S. Treasury’s interest expense was a whopping USD$413.9 billion.

Put another way, the $2.8 million donated reduced the national debt for… 3.5 minutes… before interest costs wiped it out!

This financial year the donation wipe-out will take even less time. The interest expense is already at USD$412.5 billion… and will likely increase by another USD$50 billion over the next two months of the fiscal year.

It’s no wonder so little is raised through donations.

Buy an investment or pay more tax?

Certainly Mr. Buffett and his rich pals see little point. With all their wealth, they’d surely donate more than USD$2.8 million.

After all, Mr. Buffett could double the amount donated to the U.S. Treasury each year by handing over just 0.007% of his personal wealth.

Or, if he’d prefer, he could get his listed firm, Berkshire Hathaway [NYSE: BRK-A] to make the donation. It’s not as though his firm is short of a few bob. According to Bloomberg News, Berkshire Hathaway has “$47.9 billion of cash”.

Or, he could have donated to the Treasury rather than buying 1.5 million shares of U.S. listed firm, Dollar General [NYSE: DG]. A stake that would have cost his firm over USD$40 million – 14-times the sum donated each year to the U.S. Treasury.

What point are we making?

First, it gives you another example of how stuffed the U.S. economy is. And why you should be wary about getting suckered into this one-week suckers’ rally.

For all the talk overnight about markets rallying on the back of takeover activity, the U.S. economy is just as stuffed today as it was two weeks ago.

But second, it highlights how you should pay more attention to what big investors do rather than what they say.

If Buffett’s real concern was paying more money to the federal government then he’d just do it. Making a gift to the U.S. Treasury to pay down the debt is simple: write a cheque and send it off to Parkersburg, West Virginia. (Amusingly, the Treasury also accepts credit card donations!)

But helping out the federal government isn’t his real concern. Bloomberg News gives away what’s really on Mr. Buffett’s mind:

“Berkshire’s equity portfolio was valued at $67.6 billion as of June 30, with 40 percent in consumer products firms and 37 percent in financial firms such as banks and insurers. The rest of the portfolio was in a group Berkshire labels ‘commercial, industrial and other.’”

In other words, you’re looking at a portfolio of economically sensitive stocks. Stocks that rely on an economy not going into recession.

Why higher taxes won’t help

But here’s the biggest flaw in Mr. Buffett’s plan. In his op-ed for the New York Times (where else, it’s like expecting the Age to print an op-ed calling for tax and spending cuts) he makes the point that the income of “the highest 400 [wealthiest people] had soared to $90.9 billion.”

Of this – he calculates – USD$19.5 billion was paid in taxes.

But here’s the thing, Mr. Buffett doesn’t reveal how much more taxes these people should pay. Think about it, an increase in taxes to USD$30 billion would mean an extra $10.5 billion and cover just 2.3% of the interest cost of outstanding U.S. debt…

Or wipe just 0.00007% off the federal debt.

Perhaps he thinks his rich pals should be taxed at 100% of their income? But even so, it would cover just 20% of the interest expense or wipe a measly 0.0006% off the federal debt.

Now, we can’t speak for the rich, but we’re pretty sure a tax burden of 100% would cause them – in Mr. Buffett’s words – to throw a fit and refuse to invest.

If you’re taxed 100% of your salary this year, what are the odds on you bothering to earn anything next year?

The simple reason more people don’t donate money to governments is because they know it’s not an effective use of capital. Mr. Buffett and his rich pals know for a fact if they invest money rather than donate it to government, everyone’s a winner.

The rich guys hopefully get a return on their money… the people the rich guys bought the investment from make money… the people that work for the firm they bought get to keep their jobs and perhaps more people will be given jobs… and consumers who use the goods or services produced by the company continue to get the goods or services they want.

Contrast that to government services which are things people either don’t want, or want but don’t want to pay for.

The fact is – and Mr. Buffett of all people should know this – government is a handbrake on any economy. It’s not the throttle.

Creating innovation from destruction

Economies are built on innovation and individual entrepreneurial spirit. An economy isn’t built on a democratically elected dictator swiping wealth from individuals to use as bargaining chips to secure election or re-election.

If Mr. Buffett was concerned about the future of the American economy he should call for a wind-back of the state. And with it, lowering the tax burden on entrepreneurs and successful businesspeople. That’s a simple way to increase wealth for everyone.

Instead, like all people in powerful positions and influence the goal isn’t to spread the wealth – it’s to keep theirs and make sure others spread their wealth.

Because winding back the tax burden and cutting regulations is the last thing an existing businessman or woman wants. Companies that are brand leaders and market dominators (the kind of firm Mr. Buffett invests in) also happen to be the direct enemy of the entrepreneur.

Entrepreneurialism and creative destruction are the true drivers of economic progress. But they can only drive progress if given the chance. Wealthy people calling for higher taxation on other wealthy people won’t do a darn thing to help.

All that will happen is the Feds will keep spending while the wealthy find new ways of avoiding a higher tax bill… and that means a bigger burden on the middle classes, more debt, bigger government and less innovation.

But don’t expect anyone in a position of influence to figure this out anytime soon.

Cheers.

Kris Sayce
Money Morning Australia



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Kris Sayce
Kris is never one to pull punches when discussing market developments and economic events that can affect your wealth. He’ll take anyone to task — banks, governments, big business — if he thinks they’re trying to pull a fast one with your money. Kris is also the investment director for Australian Small-Cap Investigator, Diggers and Drillers and Revolutionary Tech Investor. If you’d like to more about Kris’ financial world view and investing philosophy then join him on Google+. It's where he shares investment insight, commentary and ideas that he can't always fit into his regular Money Morning essays. Read more about Publisher and Investment Director Kris Sayce.

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14 Comments For This Post

  1. DM Says:

    I think everyone has gone fishing.
    Yes, Wazza is having a lend of them all. There’s no way he or BH will pay 1 ‘penny’ of tax more than they have to (nor will I for that matter). The more you give a government, the more ways they will find to waste it – insulation, school halls, solar rebates etc etc etc.
    I like the handbrake and throttle analogy – it’s a shame there are so many incompetent people around the world holding the handbrake!

  2. Philip Says:

    Kris

    Your argument is floored. You are saying that money is better invested in commercial enterprises such as Dollar General than through government enterprise.

    Society gets little value from cheap, low innovation, imported products from china. Government spending from your taxes pays for quality goods and services that we should appreciate.

    The idea that entrepreneurs are going provide for our needs is false. They are seeking profit, not social utility.

    What do you think?

  3. Beauner Says:

    Buffet is a dickhead.

  4. Drood Says:

    So what is money for, is it just to sit on an ever bigger stash, is it just to play with on the investment roundabout?
    Do any of you know what you actually want to do with your pathetic lives?

  5. Drood Says:

    PF previously……..Surely you are not so daft as to presume Australian banks only operate in Australia. They are mostly multinationals that operate according to the rules of the country where they do business.

  6. Peter Fraser Says:

    Drood – yes – either I am that daft or they have very little banking interests outside Australia, NZ and Oceania. They are building in Asia, and they do have some interests elsewhere, but not much.

  7. The Wolf Says:

    Drood… Australian banks only have little “banking interests” outside of Australia… but have a HUGE appetite for funding…

  8. M&M Says:

    Phillip.

    Perhaps because taxes are too high we can only afford cheap china imports.

    If I had more disposable income I’d drive a better car eat at better establishments where better clothes.

    The market is only meeting a need.

    As for government providing quality goods and services well let’s assume they do. Problem is its at a higher cost than what the private sector could do it.

    Or if you like they either waste money or over capitalize.

    As for why I make money…. Its to enjoy myself free from debt

    I’m sure wed all want to help the less fortunate especially when its not through their own fault. Hopefully own fault problems could be insured. In other words I don’t want to insure or provide for your life if you could have reasonably avoided it or been insured. I draw the line at health and education, defence and a few others I can’t think of right now.

    Everything else is a choice and we should pay for it.

    Ultimately we give too many benefits to middle income families. I know many families with houses well over $1m and they’re getting family benefits.

    The other problem with government is that it tolerates and hides ineptitude more than anywhere else. While to thus day have locked in wage increases of 9-10% over 3years. While real world depends on a businesses ability to pay.

  9. bb Says:

    Here’s the real news. http://www.smh.com.au/world/us-finds-unwilling-partner-in-china-to-avert-potential-crisis-in-region-20110816-1iwge.html
    This is how you commence the total elimination of your debt obligations with your biggest creditor, reasert your failing omnipotence as the global cop against evil – the war on terror is becoming stale . Its time to crush the communist once again – who are getting more arrogant and drunk on power via their mighty economic power base and influence. Millions of South Koreans, Americans, British, Australians and other UN soldiers and civilians died fighting against Chinese expansionism in southern Asia as late as the 1950′s. The expansion of China has taken on a different form. And they are winning hands down. Did we actually think it would not come to this?

  10. Drood Says:

    Da Wolf…..lol, surely PF wonders where Commonwealth bank made those large profits from recently, also all the Australian banks have branches or offices in a lot of other countries. They are not bound by Australian regulations in those countries.

    M+M….You are right about government owned utilities being wasteful, however the same can be said for private ones, ( I have worked for both and owned my own contracting company), however i think the problem today is literally right across the board.
    Todays management is hopeless whether it be government or corporate. Managers used to learn business from the bottom up and the inventive and innovative got up the ladder.
    These days you leave uni with a business degree and jump straight in. The new style of manager does all he/she can to prevent the competition from taking their job.
    As for helping the needy , I mean the truly needy.

    bb…. Why should other people fight your battles? Go fight them yourself , i like the chinese.

  11. Peter Fraser Says:

    Drood – I don’t wonder where the CBA made their profits at all, but why don’t you analyse their financials and then you can tell us all where and how they made their money.

    We await your report…

  12. richatf Says:

    I am quite rich but happy to pay tax and think the richer you are the more you should pay. But would I donate to the gov? No way. If I pay, I want others to pay as well. That’s called fairness. Without taxes there would be anarchy.

  13. PT Says:

    The “free market good, government bad” line is getting vvveeeerrrryyyy old.

    “If Mr. Buffett was concerned about the future of the American economy he should call for a wind-back of the state. And with it, lowering the tax burden on entrepreneurs and successful businesspeople. That’s a simple way to increase wealth for everyone”???

    Hasn’t the yankee government been decreasing tax for the wealthy for the last 30 years? As for “wind back of the state”, wasn’t it Alan Greenspan who asserted that the sub-prime mortgage market and other complex financial derivatives didn’t need regulating? Tell me again, all about NAFTA. The yanks are gonna be rich because they can get rid of all their expensive workers and … oh hang on, where did all the customers go?

    What’s all this I hear about GE relocating to China? I guess it’s only a matter of time before we all outsource our governments to China – I hear things are cheaper over there!

    Yes, I like free markets. But don’t try to tell me that they solve all our problems. What happened to the “trickle down” effect? (Does anyone even remember that one?” I suggest that what we really need now is a “flood-up” effect. Pay your workers decent wages so they don’t go belly up, because every worker is also a customer and no business survives without customers. “Oh, but that’ll cause inflation”, you say. Sure it will. And it’ll inflate away those huge debts that the free market freely created without any thought to anyone’s ability to repay. Or you could sack workers and underpay the rest, and wonder why the worker’s relative debt levels go up, bankruptcies go through the roof and no-one is buying anything…

    Yes I know the yanks can’t compete with Chinese wages. Waddya gonna do? Pay the yanks forty bucks a week and expect their debts to magically disappear? Reassure them that the free market will sort it all out? (When? 5 years? 50 years? ) Yes, I don’t have all the answers. I’m just sick of all the “free market solves everything” dogma and the complete ignorance of evidence to the contrary.

    Yes free market is good and big government is bad – but when the champions of the free market have bought the big government, you can hardly blame one without also blaming the other.

  14. PT Says:

    … and a little government can actually be a good thing. Free markets can’t and won’t solve everything.



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