Bhu Srinivasan

The way I see it is that the foundation of a capitalist society rests on property rights. Property rights are secured by the force of government as consented to by the people. The masses can withhold this consent if they feel they are not being compensated properly for guaranteeing the property rights of the wealthy. To make sure that the masses do not withhold their consent, we need to make sure we pay adequate dividends to the masses. The pro-consumer brand of capitalism of Wal-Mart, Henry Ford, Sear’s, Standard Oil (oil was in leaky cans and of uneven quality before the ubiquitous Standard cans), has allowed American capitalism to thrive because the richest capitalists created the cheapest products for the masses. Henry Ford created the $5 workday and coupled it with an 8-hour shift…Wal-Mart’s low prices help the lower-middle classes the most….most Americans owning homes also creates a vested interest in protecting the principle supporting property rights. As does the ability to move up in economic rank. 

Unfortunately, the bank bailouts for the wealthy have tainted the free market arguments in the eyes of the plurality. They see Profits Privatized – Losses Socialized for companies that employ people earning 7-figures. In this context, how do you expect the masses not to support taxing the wealthy at a 50%+ marginal tax rate if they think the game is fixed. If Goldman Sachs, with alumni in govt, is able to game the system to get paid 100 cents on the dollar on credit default swaps with AIG as the counter-party, why shouldn’t the masses use Democracy to game the system in their favor. This is the slippery slope of government intervention in the affairs of private men. I have seen hardcore free market neighbors of mine become pro-government during the initial bank bailouts while earning 7-figures. Why would it confound me to think that people in 5-figure income neighborhoods would not be pro-government if it is going to deliver them healthcare.

Capitalism doesn’t fail when companies fail; capitalism only fails when we don’t allow companies to fail. America is a pro-capitalist country; everyone thinks and feels that they themselves or their children have a shot at being rich. When we abuse this social contract by allowing a select few to practice crony capitalism, don’t be surprised if people don’t buy free market arguments when it comes to entitlement programs that benefit the masses.

In 2010, the Bush Tax Cuts are going to be rolled back meaning the tax cuts expire. The top marginal tax rate is going to revert back to 39.6% rather than 35% as it is currently. This week in Congress, legislators are considering a major healthcare bill that will be funded by a 5.4% surtax on million-dollar+ incomes. There will be an additional 1-2% surtax on households earning over $250,000. If this were to pass, this would make the top federal tax rate 45%. Here’s a study from the non-partisan Tax Foundation detailing the marginal tax rates in each state in 2011 if the surtax were to become law.

The study suggests that top-earning households in 39 out of 50 states will have a marginal tax rate above 50%. In some states such as California and New York, the marginal tax rate will be over 56%. As someone born in the 1976, I have not personally experienced the draconian marginal tax rates of the past. The 50%+ figure has a stunning quality about it: In a sense, I would no longer be paying the government a tax on my earnings…it would be more accurate to say that the government lets me keep 40%+ of my earnings. This would be more like the state and federal government paying me a commission on my productivity while keeping the majority of my earnings.

This is not a commentary on the fairness or unfairness of a 50%+ marginal tax rate (at least not yet.) Psychologically, just as one views a 51% partner in a private enterprise or venture as the controlling partner, the governments in aggregate have to be similarly viewed as the majority partner in the business affairs of our country’s top-earning citizens.

Here is a simple framework for understanding investments: There are four basic asset classes. Cash, bonds, equities, and property (hard and soft assets). All 4 play a vital role in a capitalist economy.

Every human being starts with a very valuable asset: Himself. A person’s entire future earning power is a major investment asset. At the start of a person’s career, this is likely to be the person’s only asset. Let’s think of each individual being held by an LLC. YOU LLC owns 100% of you. 

Let’s take a 22-year old named Veronica with limited education and limited ambition. Suppose she is a cashier at Wal-Mart with annual earning power of $20,000 per year. Veronica LLC owns 100% of Veronica’s labor. If Veronica was willing to sell you 20% of the LLC for $20,000, would you be willing to pay $20,000 to start receiving 20% of Veronica’s annual earnings for the remainder of Veronica’s life. Probably. This would imply that 100% of Veronica LLC is worth $100,000 today.  

What this crude analysis suggests is that even a person such as Veronica with the most limited education has an equity investment worth $100k. It’s illiquid, but ownership of yourself is a major asset. Investment orthodoxy suggests that when a 22 year-old saves money, they should invest in stocks since they have a very long investment horizon that would allow them to sustain volatility. While it sounds logical, it’s not that smart. Here’s why:

To begin with, Veronica LLC has exposure to labor markets, local conditions, market conditions, and a host of other factors that impact equity investors. Her $100,000 investment in herself is in a real sense a discounted value of future cash flows from her earnings factoring in a risk of disability, death, drug abuse, or dropping out of the workforce. As she earns her $20k per year, if she is able to save $2k per year (a 10% savings rate!), should she invest $2,000 in stocks? The reason she would invest in stocks is to earn 9% long-term rather than 4% in bonds or cash.

To spend an ounce of attention to earn a return of $180 rather $80 makes absolutely no sense. Who cares? Her investment base of $2,000 is a very small base compared to her $100,000 stake in herself. Her equity stake in herself can increase in value by 10% or more if she were to manage to get herself a 10% raise or add a simple skill set that would allow her to earn $12 an hour rather than $10 per hour. When she increases her earning power by adding skills or actively looking for higher-paying opportunities, she is increasing the value of an investment that is already worth 6-figures. If she can get a 3% raise, she has added 2-3% to her $100k stake in herself.

The logic is simple: When you are in your twenties or thirties, focus entirely on maximizing your earning power through education, promotions, lobbying for raises, switching jobs, moving where there are better job opportunities, etc… Whatever returns you generate from an investment portfolio is going to be negligible compared to the returns you can generate on the equity stake in yourself. A 2% increase on $100k is the same thing as 100% gain on a $2,000 portfolio.

In addition, why touch equities (stocks) at all? You already have close to 100% of your portfolio in equity (yourself) to begin with. You need to diversify out of equities since your number one asset is equity in yourself. What young investors need to do is to save cash. You can be smart and still keep your money in cash in a simple savings account. And ultimately use this cash to invest in property and bonds. Simply compounding money in a savings account or CDs is not only safe, it requires very little of your time and will impose little anxiety. This will save you time to become a master in your craft and maximize your earning power and your saving power.  

To finish this exercise, if you are a young doctor, lawyer, accountant, or engineer still in your twenties or early thirties, you are worth well over $1 million today if you do not have $100 to your name. Your best strategy is to simply save money and focus continually on increasing your earning power. You have absolute control over YOU and control every aspect of maximizing the economic value of YOU LLC.

Jack Kemp represented the common sense wing of the Republican party. If the Republicans want to start winning elections again, the party should start molding itself in Kemp’s image. Otherwise, the party is going to be relegated to fighting over Southern states, which itself is going through a dramatic demographic shift especially in Virginia, Georgia, and North Carolina. Kemp had it right on economic policy and he was a moderate on social policy. Ultimately, the blueprint for Republican success is going to be tax cuts and moderate social policy. The family values era is over. And the overt militarism of the Bush era has been repudiated: Two costly, unending wars have taken its toll on our country. The crown jewel of the old school Republican way of thinking is economic conservatism. If the Republicans once again go down this road and learn to mind their own business about people’s personal lives, the Republican party will start getting converts from Independents and Democrats. Many people that currently vote Democrat are simply turned off by the militarism and insular nature of the Republican party. The “family values” era was a sham: Everybody from preachers to Senators to House members had their own share of affairs and homosexuality. This country’s greatness comes from Capitalism, not because of our love of family or our Patriotic military. Everything great in and about this country starts with our economic success. Our military dominance also comes from our economic success. Only Capitalism can continue to keep the United States of America on top. A party that very clearly adheres to the principles of free markets, limited government, low taxes without the preaching or warmongering is a party that will start winning once again. This is the party of Jack Kemp.

Jack Kemp was also a great Buffalo Bills QB, which as a Buffalo Bills fan, pretty much makes him awesome.

A Better Plan for Stimulus

Americans are as anxious as ever about the financial events of 2008-2009. The markets are falling because the people are anxious and the people are anxious because the markets are falling. And rightfully so. Aside from the direct anxiety caused by job losses and their personal financial uncertainty, people are equally worried about the course that the country is heading in. The economic policies initiated by both the Bush Administration and the Obama Administration seem too incoherent, bloated, wasteful, and complex to understand. Unfortunately, Americans also believe that the policies are too complex for the policymakers themselves to understand. The people’s logic is irrefutable: If the financial community understood the complexities or had any predictive capacity, we would not be here. We need a fresh, simple plan that people can actually understand and works rapidly. Here is my plan:

• Lifetime Capital gains tax exemption on 2009 Investments. Allow new investments made in 2009 investments to be permanently free of capital gains tax. The basic idea is that any investment that a person or entity makes in 2009, any future gain will be free of capital gains tax. This will do two things. One, it will not cost anything this year in lost tax revenues. It creates an incentive for people to invest now, in 2009, rather than wait before putting money to work. Private equity, venture capital, start-ups, landlords, farmers, virtually anyone with liquidity will consider investing now…it is temporary. This is a substantial incentive to invest once again right now. Asset values are low. Labor costs are lower. With capital gains taxes set to go to 20% in 2010, this is a fairly big advantage, but it is politically-palatable as Americans understand that investment capital that enters the economy right now will create jobs. The government has exhausted monetary tools with the Fed funds rate at 0%; the only remaining tool is to print money buying treasuries. Let’s try a smart tax cut that is not ideologically-driven, is temporary, and is designed to pump capital back into the system.

• Increase the FDIC guarantee. Make it unlimited. And allow the guarantee to apply to all depositors, including corportations and non-individuals. This allows for money sitting in US Treasuries to feel safe enough making ordinary bank deposits. This will free up cash that can help keep the banks solvent. It will allow them to build their capital bases without direct infusions of capital. Money sitting in short-term treasuries will benefit our society by instead being kept as deposits in our banks. Back in September, when the FDIC increased the limit from $100,000 to $250,000, this was a smart way to prevent banks from losing deposits and weakening their positions further. Many corporations that keep cash equivalents in treasuries would feel comfortable keeping it in banks. This is simple for people to understand and it helps restore immediate confidence in the US banking system.
• Insure State Municipal Bonds. Guarantee all state general obligation bonds issued in 2009. Set aside $300 billion worth of guarantees for states. These guarantees do not cost hard-dollars to the Federal government. In the event that a State does not pay back some of the bonds issued in 2009, the Federal Government would be on the hook. Since the Civil War, no State has defaulted on municipal bond issue. $300 billion might sound like a lot of money, but the Treasury has agreed to backstop up to $180 billion worth of losses just on the Bank of America – Merrill Lynch deal. $300 billion to insure municipal bonds issued in 2009 is a far better risk than guaranteeing large sums on ad hoc private mergers. There is a huge backlog of bond issues waiting to . Bond insurers went under. Major underwriters like Lehman and Bear Stearns, Merrill Lynch, Wachovia, Citigroup have faced major disruptions in their businesses. This has caused many major infrastructure projects to get put on hold at a time when communities desperately need the projects to create jobs. A school that is going to be built one way or another, we’re better off as an economy to have it built now than later. A temporary federal guarantee of municipal bonds at the State level will free up a lot of capital to get put towards capital projects. It will be decentralized and local. This is one of the fastest ways of getting money into the economy. Every year, states and local governments issue about $400 billion worth of municipal bonds; the proceeds from these bonds finance schools, bridges, hospitals, etc. With the collapse of major players in this market and with the decline of bond insurance firms, and disruptions in retail brokerage units, the entire process for how these bonds are brought to market has been disrupted. Enabling states and local municipalities to issue bonds will allow capital projects that have been delayed to commence immediately. This is decentralized stimulus that might end up costing nothing.
• Allow 100% expensing of capital expenditures in 2009. Our current tax code encourages corporations to take on debt; to offset this effect, capital expenditures should also be fully deductible. Interest expense is entirely deductible, but a company that wants to make a major capital improvement or build a new factory has to do it with after-tax dollars. Again, this creates a perverse incentive to leverage a balance sheet with debt rather than creating incentives to reinvest profits. A rational operator is better off borrowing to capacity, paying himself a one-time dividend recap, and allowing the interest expense to wipe out the operating profits. An elimination of corporate income tax will not happen. This is easy to understand. A company should be able to invest in large projects with pre-tax dollars rather than get taxed first. This will enable companies and shareholders to want to reinvest profits since this can compound tax-free.
• If you save it, don’t tax it. One of the reasons that we have become such a leveraged society is due to our tax code, not just our conspicuous consumption. Our tax code discourages people from saving money. Here’s one example: Think about how people save for a down payment. It is far more tax-advantageous to take out a 95% mortgage on $300k than it is to save $60k for 20% down. Here’s why: The interest on mortgage is tax-deductible, but saving up for a down payment has to be done with after-tax dollars. We discourage people from saving up for a down payment when we tax these dollars, but we instead allow interest to be tax-deductible. From a dollars-and-sense standpoint, it is more financially prudent to borrow 95% than not. We need to change this if we want to encourage savings. Right now, we actively discourage savings by creating incentives for borrowing. In our above example, a person is better off borrowing 100% of the amount for a house and saving money in a tax-advantaged account; if the person is going to save $60k, they are better off doing it in a tax-advantaged account such as an IRA, 401k, etc rather than putting anything down. This is one of the reasons that Someday, hopefully, we can have a policy that says if you save it, we won’t tax it. This way people can save money without having to navigate through a sea of 401Ks, IRAs, Rollovers, urrgggh. Keep it simple if you want people to do more of something.

• Adjust mark-to-market rules. This is something that has not been explained properly to the American people, but it is an important contributor to our problem. Banks and financial institutions have to constantly monitor the value of their investment securities and record this value at the end of everyday. Since many securities trade in the market, banks use this daily value of these investments to estimate a market value of their own similar assets. This is called mark-to-market. The value of these securities is what constitutes a bank’s capital base. In simple terms, a bank’s capital base is its cushion against potential losses; banks are required to keep a certain amount as reserves. The problem is that many of the securities that the banks own are complex and trade infrequently. As such, these complex securities cannot be liquidated overnight nor can they be priced properly in a market that has no buyers. This does not mean that the securities have no value, just that the market has no buyers as everyone is scrambling for liquidity. Imagine if you had to sell your house in the next 24 hours, what kind of price would you get. Would that price be an indication of what the house is actually worth if put on the market the proper way over the period of even 1 month. Now imagine trying to sell a house within 24 hours during Katrina in New Orleans. This is similar to what happened back in September and triggered a cascading decline in the assets of banks as everyone kept scrambling to sell. The government should suspend the mark-to-market rules to allow for banks to carry non-impaired securities at cost. If certain assets are not impaired, it doesn’t make sense to ask banks to assess their present liquidation value. Mark-to-market rule has thrown gasoline on the fire.

This rule works like this: Imagine if you had a 1-day mortgage that you basically have to refinance everyday; let’s suppose this has been working fine for years as your mortgage rollsover quite easily on a nightly basis. You have ample equity in the house, solid income from your job, adequate savings, and you have also collateralized your 2007 Camry in addition as security. Your neighbor with a similar 2007 Camry, in desperation after a poker game, decides to use his Camry to settle a $500 bet as he was cash-constrained. Mark-to-market rules now dictate that you will have to assess the value of your Camry at $500 since this was the market price of your neighbor’s Camry. Now the bank calls you and wants you to put up more collateral. Everyone in your town that has a similar Camry has to market their Camry to market. Earlier model year Camry’s also need to be lowered as no one would value a 2006 Camry more than a 2007 Camry. And the 2007 Camry is worth $500. This is called mark-to-market.

The solution is to let banks keep non-impaired assets at cost. Complex securities cannot be liquidated overnight nor can they be priced properly in a market that has no buyers. Additionally, if certain assets are not impaired, it doesn’t make sense to ask banks to assess their present liquidation value. Mark-to-market rule has thrown gasoline on the fire.

Unfortunately, when one bank sold an asset out of desperation, all other banks had to mark-to-market similar assets at the desperation price. This left banks short of their reserve requirements; they had to sell more assets to raise cash. This further suppressed the market. Certain assets really are toxic, but certain assets are simply not impaired, meaning there is nothing wrong with them other than the fact that there are no buyers. These non-impaired assets should be carried at cost. It would alleviate the need to inject capital into many of the banks now targeted for relief under TARP.

• Regulate Credit Default Swaps as insurance products. This is exactly what they are. Let state insurance regulators impose the reserve requirements. One of the biggest problems. We don’t need a massive new regulatory framework. Let’s just call things what they are. Credit default swaps are insurance policies that pay the policyholder money if the bond issuer defaults. Look at Homeland Security and TSA. We don’t need to be reactionary and allow short-term thinking to influence long-term policy. Let’s not create new regulatory frameworks.

• Bring back Glass-Steagall. I am not for regulation generally. And it pains me to say it. But here’s why. Chances are that the government simply will not allow major banks to fail, even if they are broke. This is the fallacy of the “too big to fail” ideology. It not only creates moral hazard among those taking big risks, but it creates an incentive in the market to do business with a big, incompetent bank rather than a small healthy bank. Here’s why: The counter-party risk of a “too big to fail” bank is basically guaranteed by the Federal Government. This imposes a penalty on well-run banks since their credit quality will not be as good as the Federal Governments. As such, if there is going to be such a thing as “too big to fail” or “systemic risk imposed by failure”, we’re better off segregating the vital needs that the government deems vital and regulating it vigorously. If the government let all of the banks fail, I would be fine with less regulation, but if we’re not going to allow unfettered capitalism with full failure, we need to regulate. Instead of allowing every investment banks, credit card issuer, insurance companies to be relabeled as bank holding companies, we need to go the opposite way. Let investment banks be investment banks. And let consumer banks be banks.
• Tell people to pay their mortgage. Leadership is not only about inpiring people and building consensus, it is also about telling people what to do. Yes, many Americans are having a tough time with their mortgage. However, it would be wrong for every person with a mortgage that they can’t pay to somehow blame the lender for giving them money in the first place. We need to make sure Americans do not succumb to a sense of victimology en masse. Today, it seems that Americans have completely absolved themselves of any responsibility for borrowing beyond their ability to pay. The banks with all of their toxic paper are a direct result of people not paying their mortgages. Clearly, the people not paying back money that they owe have had some role to play. Let the American people know that it is their obligation to do everything that they can to pay their mortgage. It is easy to blame bankers; it is hard to blame Americans. But the people deserve a lot of blame. A sense of moral obligation is necessary otherwise any mortgage incentives are likely to be exploited. There needs to be some stigma attached to relief programs, just like there is with welfare. Americans are not decadent. We have the highest hours worked of any western nation. We take the least vacations. A simple statement that emphasizes the immorality of imposing costs upon society will go along way to getting us back on track.

• Go test drive an American car. Let the President say it; it will cost nothing, but it will drive people to showrooms. Americans will do it. This is not quite a Buy American rallying cry. We do have a storied history in automobile manufacturing. This is not trivial. A large part of this country depends on this industry. Let the President encourage Americans to have a Test Drive weekend. Americans will be encourage to go test drive an American car. This will be a couple of hundred million dollars worth of marketing. It will help dealers clear inventories. And perhaps give American manufacturers an opportunity to appeal to new customers. (I have never owned an American car or even test-driven one; I would if asked. I probably should anyway.)

• Embrace Global Capitalism. Forget Protectionism. Globalization is the global peace movement. Countries that trade with one another and depend on one another are less likely to fight one another. Since World War II, no country ranked in the top 10 in GDP has fought each other. This is an unprecedented era of peace when rich countries have not fought each other. Workers, managers, executives, people, build bonds through trade. Capitalism has pulled billions out of poverty as it is doing with China and India. Capitalism and the bonds of trade allowed us to make peace with Germany and Japan, now the 2nd and 3rd richest countries on earth (and demilitarized.)

• Do nothing. If none of the other elements of this plan are palatable, doing nothing is also an option. Before the Iraq War, the identical argument that doing nothing would result in catastrophic consequences rushed us into war. Now, this same tactic is being used to rush us into stimulus. This would be tragic enough if we hadn’t already been rushed into a bank bailout package back in October. Doing nothing is sometimes the hardest thing to do. And my belief is that it is the wisest thing to do. Just as we should not have let barbers perform brain surgery in the middle ages, we should not let economists perform stimulus on nations.

In my plan, the government will take risks across the board, but it will not spend money in a way that involves subjective assessments on an ongoing basis. By guaranteeing risks across multiple sectors and creating a temporary tax-free investment period of one-year. The decision on how to allocate the capital is entirely decentralized. Local governments, corporations, entrepreneurs, investors, consumers, homebuyers, and people will all benefit. Americans are smart. We are here because our culture is strong. In my estimation, Americans will take great comfort in knowing that our government is not borrowing endless amounts of money aimlessly. Americans need a plan that they can understand.

The Bond Buyer, the trade publication covering all things public finance, wrote an article about our acquisition of MunicipalBonds.com. The article highlights one of the great synergies between LOCALE Media and MunicipalBonds.com: Municipal bonds are financing mechanism used by localities. As such, there is a need for issuers to advertise locally and within the state of issuance. LOCALE Media has access to and buys advertising inventory on some of the top financial sites; we can target the advertising by zip-code, county, city, or state giving issuers the ability to reach investors in the places likely to have the most interest in a particular bond issue. In addition, with MunicipalBonds.com as the ultimate destination for retail investors, we have complete municipal bond marketing platform that is innovative and impossible to duplicate.

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We were so outraged back in September about the AIG bailout that I created a spoof business plan for SIG, the Social Insurance Group. I did this to help some of my dotcommish Web 2.0 friends understand the ramifications of the government’s plan back then. The plan to save AIG was dumb back then and looks even dumber now. But as the long as the government has the Profits Privatized Losses Socialized program active, we thought we should have a business plan handy to participate in the government’s plans.

The SIG Business Plan:

http://siginc.wordpress.com/2008/09/19/sig-business-plan/

Our Letter to the Government to enroll in the Profits Privatized Losses Socialized or PPLS program

http://siginc.wordpress.com/2008/09/19/dear-government-help-us-help-america/

http://SIGINC.wordpress.com

2008 was a great year for LOCALE Media. We sell display advertising on leading sites. Since August, we have added local salespeople in many of our key metro markets. Given the recession in 2008, we have executed exceptionally well. Our first client started advertising with us in September. We have grown rapidly since then.

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This is our first investment in financial content. We’re very excited about the prospect of developing the premier site for municipal bond investors. We bought this domain with some basic content elements because we think municipal bonds are going to be a fast-growing investment category. Read our press release for more background:

PRESS RELEASE:

New Site for Retail Investors Launching January 21, 2009

Bloomberg Article on MunicipalBonds.com Acquisition