Saturday, June 5, 2010

Private Sector Job Creation Initiatives Must Be Bolder and Quicker

This isn’t your typical cyclical US recession. Instead, this is a structural recession. To solve the catastrophic unemployment/underemployment/low wage and US federal deficit problems triggered by this structural recession, much bolder, creative actions are needed, that are also quick hitters.

Let me explain why I think the Economic Stimulus, although very well intentioned, hasn’t been very effective in reducing the unemployment/underemployment rates. In doing so, let me use an analogy from the recent BP oil spill in the Gulf of Mexico.

When you have oil all throughout the Gulf, and you try to get rid of it “One Scoop at a Time”, you have no success, especially when more oil keeps spilling out in the Gulf.

So much of the Economic Stimulus was designed the same way……”One Project at a Time”. On so many of the projects, the government, being fair, thorough and transparent, takes quite a long time to review each proposal and then decides which company, organization or individual best deserves the government money incentives. This is crazily inefficient…..probably designed by academic economists and/or government bureaucrats, without the requisite business acumen. And just like more oil continuing to be spilled in the Gulf, the unemployed and underemployed rolls, as well as the lower wage full-time jobs, keep expanding from US jobs continuing to be transferred overseas, from US jobs cut due to US company productivity initiatives, and from the many newly-minted college graduates, high school graduates and high school and college dropouts.

Instead, I think what should have happened was for the US government to creatively design US government desirable tax incentives for businesses to execute. Thus, you would be unleashing the creativity of all of businesses, right away, to solve the deep, structural US economic problem. And can businesses ever quickly respond to something like this…..the key salient point to understand is that businesses are driven to action by reported earnings. You give them an incentive to increase their earnings, they’ll go after it quickly and intensely.

Why is this a structural recession rather than a typical cyclical recession?

So many pundits think that if you solve the financial markets and the housing regulatory problems, the jobless problem will later go away in a reasonable amount of time. This is crazy reasoning. You fix the regs, you still don't have business demand.

Many of these same pundits also think the major problem causing joblessness is that there is no lending to small businesses. However, the major problem in reality is the lack of demand for the products and services of the small businesses, caused by the horrible economic crater we are in. You really can't blame a prudent bank for not lending to a small business, whose financial statements are not sufficiently solid, and more importantly, whose future cash flows are now even more uncertain given the horrible economic environment, coupled with a government which hasn't as yet shown that it is willing to spur, in any significant way, the critically needed business demand growth. When business demand returns and small business financial prospects look much better, these prudent banks will then open up their small business financing spigots.

One thing is for certain. The longer real private sector job creation is put off, the worst the structural recession will get. First, the average time the unemployed will be out of work will increase and the harder it will be that the skills of these long-term unemployed will be desired by companies. And second, the high number of unemployed and underemployed substantially increase, on a continuing basis, the US federal deficit, as well as also putting State Government finances under severe pressure.

The structural recession has been caused by the 2000s Lost Decade. It’s mainly the massive offshoring of jobs overseas by multinational corps, with the resultant catastrophic effect on the US federal deficit, on US full-time employment, especially at livable wages, on US States financial coffers, and also on US real GDP percentage growth (averaging a dismal 1.9% annually in the 2000s Lost Decade vs. a very stable and substantially higher average of 3.1% to 3.3% annually in the three preceding decades). And this huge economic drop down in the 2000s Lost Decade occurred mostly in a laissez-faire US government environment, and thus with no government oversight.

The massively detrimental US federal deficit impact as well as the US states severe financial pressure here result from the monstrously lower corporate income tax receipts and the gargantuan employment individual income tax receipts lost and the related gargantuan payroll tax receipts lost, due to moving these jobs overseas.

And then there are several other primary reasons for this structural recession caused by the 2000s Lost Decade.

First, health care costs increased dramatically to both US businesses and to US individuals in the 2000s. And the three health care industries causing this massive cost increase (i.e. Big Non-profit Hospitals, Big Pharma and Big Health Insurance) all generated windfall profits in the laissez-faire 2000s Lost Decade.

Second, and in like manner, energy costs increased dramatically to both US businesses and to US individuals in the 2000s. And all of Big Oil, causing this massive cost increase, generated massive windfall profits in the laissez-faire 2000s Lost Decade.

Third, the substantial income tax cuts on the wealthy substantially increased the US federal deficit during the 2000s. Of special note here is the massive drop in US federal income tax receipts due to the monumental decrease in the dividend tax rate on individuals. There wasn’t much in the way of capital gains in the financially depressed 2000s decade, but there was still a gargantuan amount of cash dividends received, taxed at incredibly low tax rates.

Fourth, the US federal deficit ballooned in the 2000s from many unfunded spending initiatives, including unfunded spending on wars, the first TARP spending and the 2009 ARRA Economic Stimulus spending.

Anyway, given this structural deficit, how best to quickly jump-start real, sustainable private sector job creation?

Certainly, the business research tax credit is a winner. I think you’ll see some version of this pass shortly. What scares me is that Congress will just extend it exactly like it was in the past, where a good chunk of the future jobs created from it were overseas. Instead, it should be changed to make it fairer and much more of a US job creator, and at the same time, to provide disincentives for multinational corps to offshore jobs.

But what one, single bold job creation initiative is needed right away, which would be fairly simple to apply and also very effective? There have been many that I have proposed and that many others have proposed.

But the single one? OK, I think it’s clearly the Manufacturing Tax Credit. This Manufacturing Tax Credit would be computed as a pretty healthy percentage, perhaps at least 10%, of the purchase price of all three-year, five-year and seven-year MACRS tangible personal property placed in service. I am certain this one would really juice up the economy and job creation, and do so right away. And what really helps here is to also make all external computer software costs as well as all manufacturing plant facility costs eligible. I would make it a refundable Manufacturing Tax Credit. Also, for multinationals corps only, I would include a requirement for some form of simplified overall US payroll count increase to earn the Manufacturing Tax Credit, and then these payroll counts increases must continue in subsequent years or else the Manufacturing Tax Credit gets recaptured.

For maximum effect and fairness, I would enact the same Manufacturing Tax Credit percentage for businesses of all sizes. I’d make it eligible for all property placed in service, or for manufacturing plant facilities, committed to construct, from now to December 31, 2010.

It would be expensive, so how best to pay for it?

Well, the most dollars of tax benefit would go to large multinational corporations. This can be easily 100% paid for by the foreign earnings repatriation tax….a bit of sorely needed Backshoring. And these multinational corps would love to get their hands on some of their cash and cash investments locked away in tax havens like Ireland.....ouch, that European financial mess. I would grant a very healthy Dividend Received Deduction Percentage on the Foreign Earnings Repatriated used only to 100% fund this Manufacturing Tax Credit. And yeah, a multinational corp would be eligible for this Manufacturing Tax Credit only to the extent it is 100% funded by a like amount of its foreign earnings repatriation tax.

Then the larger problem….how to pay for this for pure domestic companies?

If multinational corps get their reported earnings negatively impacted by this funding, they’ll do everything they can to stop this Manufacturing Tax Credit for all companies. Unfortunately, that’s a fact of life. And they are so powerful.

Here’s a handful of funding sources that won’t negatively impact corporate earnings.

First, there's some automatic funding from the payroll count increase requirements for multinational corps. If they don't increase their US payroll counts, they won't initially earn this Manufacturing Tax Credit. And if they don't subsequently maintain these payroll count increases, this Manufacturing Tax Credit will be recaptured. On the other hand, if as expected, they do increase their payroll counts and continue them, there will be a huge pickup in US individual income taxes and payroll taxes from these US payroll adds. Thus, CBO favorable scoring has to be really helped by this payroll count requirement feature.

Second, there’s the partial deposits on open IRS tax audits. Corps already have an earnings charge on their books for this and thus there wouldn’t be any additional earnings charge to them.

Third, there’s the closing of the many tax loopholes of Big Oil, Big Health Insurance , Big Hospital, and Big Pharma. There is a long list of these. Since these industries all played a major role in creating the 2000s Lost Decade, in all fairness, they should all kick in to help solve the country’s economic mess it is now in. Since I am only targeting closing tax loopholes for a few industries here, only a very small set of corporations/organizations would have earnings hits here from this funding.

Fourth, there’s some of the uncommitted Economic Stimulus funds that I think can be much more effectively used for this highly-effective, quick-acting Manufacturing Tax Credit.

Fifth, in all fairness, individual dividends received should be taxed at ordinary tax rates. It's just not right for hard-working employees to get taxed at up to more than twice the income tax rate that cash dividend recipients are taxed at.

Sixth, the LIFO Inventory tax loophole could be closed for all companies above a certain size in all industries. There's no earnings hit here. Nearly all companies now using LIFO would switch their inventory accounting. And as an added benefit, the switch out of the unrealistic LIFO accounting will result in much stronger financial statements of these companies....much higher cumulative earnings and higher equity.

Seventh, and I really like this one, a refundable tax credit on Marketing, Selling and Advertising costs incurred from now until Dec 31, 2010. To make the Manufacturing Tax Credit really explosively effective to increase the desperately needed BUSINESS DEMAND, and the resultant job creation that flows from it, it will be really helpful if businesses doing the selling of this eligible property, and perhaps even for some or all other items they sell, can get a tax credit for marketing, selling and/or advertising these products. So where's the funding here? Well, I would give say a 5% tax credit for the Marketing, Selling and Advertising costs in the current year but then more than pay for it, over the next ten-year CBO scoring period, many times over by extending the life that all future Marketing/Selling/Advertising costs are to be deducted over to say one year, 18 months or even two years. I wouldn't start extending the life until after the country is completely out of this horrible structural recession...thus start scaling it in after say three years. The positive CBO scoring on this should be just huge. And businesses would get a very nice bump up of their reported GAAP earnings from just this, since the tax credit increases reported GAAP earnings but the life extension is treated as a temporary tax difference. And from a fairness standpoint, many Marketing, Selling and Advertising costs incurred are in essence Investments, benefiting businesses for many years.

The really cool part about the tax credit on Marketing, Selling and Advertising costs is that there are infinite ways to very easily fine tune them to get the desired result. For instance, if you wanted to reduce its CBO cost, you could just allow a tax credit on Marketing, Selling and Advertising Costs over and above some base period amounts, like the way the R&D tax credit works, and then you would also have the flexibility to significantly increase the percentage tax credit. Also, if you wanted to increase the CBO favorable scoring, choosing a two-year life for amortizing these costs for federal income tax purposes would give you a monumentally higher more favorable CBO scoring than choosing a one-year life. Another way to reduce the CBO cost here is to allow, or perhaps even require, multinational corps to use their foreign earnings repatriation tax, with a related incentivized favorable dividend received deduction percentage, to be 100% funded by a like amount of tax credit for their Marketing, Selling and Advertising costs incurred.

Eighth, perhaps some combination of the above seven.

Further, I would even consider combining some form of bonus tax depreciation on the same property getting this new manufacturing tax credit. This can easily be designed to have no ten-year CBO scored cost. I would place some payroll count increase requirements on multinational corps for this bonus tax depreciation too, though.

I think the severely stressed State government financial coffers will be helped monumentally in the near term by the above proposals. First, the large taxable dividend from foreign earnings repatriation will substantially increase state business taxable income of multinational corps. Second, if the States are wise enough to pass legislation to include both the Manufacturing Tax Credit and the Marketing Tax Credit in business taxable income, business taxable income will be substantially further increased. Third, States should not allow the bonus tax depreciation. Fourth, state taxable income should increase markedly from the incentives here to increase sales and thus profits of all businesses. And fifth, payroll counts will increase and thus States will see much higher individual income taxes. And then in the far term, states will significantly benefit from the life extension on the Marketing costs.

An update of this post can be seen at the below link.

Let Gulf Oil Spill Spark a Bold US Job Creating Economic Recovery