RE: What is Possum Stew?

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From: Zhang, Yangkun (Yangkun.Zhang@FMR.COM)
Date: Tue Oct 24 2000 - 08:01:32 PDT

Do we have to go through this AGAIN???

> like the (profligate) propaganda from slippery-side economists, it gets
> harder to swallow the more you chew on it. i give you instead
> chateaubriand.

Consider the source! The Atlantic? You might as well have posted an article
from The Progressive! Neither are known for its economically accurate
reporting! I remember an article early this year from The Progressive
calling the fed's raise of discount rate an attempt to help the "big-banks"
to make more money, presumably at the expense of the little-guy. Except that
The Progressive was dead wrong--higher interest rate batters the bank stocks
as their earnings get squeezed--remember the bank failures in the early 80s
due to Volcker's raise of rates? I hardly needed The Progressive to tell me
how banks were doing, as I owned 1000 shares of BankAmerica at the time, and
saw my money going down the drain.

I just love how people make wild assertions without any data what-so-ever.
In so far as supply-side-fiscalism, it's simply the application of
risk/reward. Capital gains taxation skews the risk-reward ratio. I have
already posted plenty of data from every continent with respect to taxation
and economic performance from either politically neutral sources in this
nation or sources from socialist countries in previous messages (which is
far more than any of my opponents ever offered), so I won't rehash them
here. But here's what Red Herring had to say about capital gains tax rates
in 1993:

"Congress lowered the capital gains tax rate across the board from 50% to
28% in 1978, and to 20% in 1980. In the eight years after the cut, the
venture industry took in close to $20 billion of institutional capital to
invest in new companies. The per annum figure of new capital invested
climbed from $200 million raised in 1978 to a high of $4.2 billion in 1986.
Conversely, in 1986, when the Tax Reform Act eliminated the capital tax
differential, institutional venture capital investments in new developing
companies plummeted to under $1 billion by 1992. According to the National
Venture Capital Association, individual investors typically provide over 90%
of the start-up capital to small companies. The 1986 tax changes also
steered these investors away from making long-term, high risk investments."

Note that it's actually criticising Reagan for marking the marginal capital
gains rate at parity to the marginal income rate, so the above data is
obviously not politically motivated.

I will offer his common sense reason why taxes affect investments greatly:
when a small investor invests money and realizes capital gains, he or she is
taxed, yet when that same small investor realizes a capital loss, he or she
is allowed only to deduct $3000 of that loss from regular income. This in
itself skews the risk reward ratio, as the capital gains tax have
effectively cut down the maximal gain, and increased the maximal loss, so at
any risk level, the reward for that incurred risk is lower. Now, the small
investor will be far more careful, and are more likely to avoid risky
investments--esp. startups--as the capital gains tax artificially skews the
reward you get.

As for institutional investors, they are not encumbered by the same $3000
capital loss deduction problem, but taxes still matter. Anyone who believes
otherwise only need to view the amount of year-end capital loss realization
for taxes recently incurred on the market. As for behavioral response to
capital gains taxation--it's even easier to predict, as the expected
AFTER-TAX return is one of the parameters for the many analysis tools used
by institutional investors--i.e., it makes Treasuries (which are exempt from
federal and state taxation) far more attractive as opposed to equities.

Apropos, yesterday I was having dinner with a [very liberal] friend of mine.
She asked what the tax rate was right now, and I answered. I was quite
surprised that she didn't know what the marginal rate was considering her
anti-supply-sider stance. She also thought that you are taxed at one rate
[which increases as you make more money] instead of having an increasing
marginal rate on the marginal dollar. It just hit me--you have a lot of
people who fill out the simplest 1040 forms (70+ percent of the population),
who probably does not itemized deductions, who never had to deal with the
AMT, who never had to touch a schedule C or D, who do not know the
difference between long term versus short term gains or what the wash sale
rule is--yet these same people think they know enough about taxation and its
effects on human behavior to make opinions on what the proper policy on
taxation SHOULD BE. Unfortunately, most of these same people supports a
supposed soak-the-rich taxation policy whose only effect is to soak the
economy--read my previous messages, tax analysts have concluded that the
rich paid the same rate of taxes with a high marginal rate compared to a low
marginal rate, it's just that more time and energy is spent sheltering the
income (and hence artificially skewing the economy).

P.S. Supply-side economics and tax cuts is not and should not be
politicized. Nixon agreed with you--i.e., he tried to soak the rich with the
AMT and highly "progressive" rates. JKF definitely disagreed with you, as he
instituted some pretty big tax cuts. Reagan was a wash--he would have
disagreed with you with respect to income (he wanted the rates cut) but
agreed with you with respect to capital gains (he didn't think capital gains
taxation mattered very much as an incentive to venture capital) and paid the
price for the latter as the market swooned in 87 and venture capital dried
up. (See my previous quote from Red Herring.)

P.P.S I'm still waiting for a shred of data--numbers please!--against
capital gains tax cuts!

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