A Look At This Weeks Show:
- FATCA. One big fat mess
- Erosion of financial privacy worldwide
- The importance of fraternity to liberty
About the Guests:
Frank R. Suess heads up the BFI group of companies as CEO and Chairman and personally advises a select group of BFI’s high net-worth clients around the world. www.bfi-capital.com
Richard W. Rahn is a senior fellow of the Cato Institute and the Chairman of the Institute for Global Economic Growth. He is also a weekly economic columnist for The Washington Times, and serves on the editorial board of the Cayman Financial Review. www.cato.org
The McAlvany Weekly Commentary
with David McAlvany and Kevin Orrick
Kevin: David, you are just getting back from the Bahamas. I know a lot of our clients and listeners did not have a chance to attend that conference, but you got a chance, also, to take some time with some of the speakers who were there, like Frank Seuss, somebody who has been a friend of the family, and whom you have worked with internationally, in business types of arrangements for years. Tell us a little bit about Frank.
David: Frank is the CEO and chairman of BFI Capital Group, which is a number of different companies – BFI Wealth Management, and BFI Consulting. He came to the asset management business from Anderson Consulting and Price Waterhouse, did most of his studies here in the U.S., and studied finance, and then a Master’s Degree at UC Berkley, an MBA there. He has been a good friend, and we have climbed mountains here and there, and gone on bike trips…
Kevin: All right David, I hate interrupt, but I was with you in Switzerland a couple of years ago when we went to his office there in Zurich. When you guys took a break – you didn’t even change out of your suits – he has a 3-story climbing wall in his office, and you guys just climbed around. You changed into climbing shoes, but you left the suits on.
David: (laughter). Right, right. Yes, we have had a good friendship through the years, and created Global Gold as an offering for our clients and his clients, and they have taken the reins of that business and are doing a great job with it. We spent some time with him, and we spent some time with Mark Skousen. Mark is a Ph.D. economist, has taught at a number of different universities, written 25 different books, and I have traveled the world with Mark through the years, growing up, with my dad. He and my dad were always bantering back and forth about different issues. It has been a good friendship through the years.
Kevin: He is an organizer of one of probably the foremost gatherings of free market thinkers, once or twice a year, at Freedom Fest.
David: Right. The biggest of those is in Las Vegas in July, and then he has a smaller conference down in the Bahamas, so we got to see him there, as well. While were in the Bahamas just a week or so ago, we also spent some time with Richard Rahn. He is also an economist. He writes frequently for the Washington Times (what else do you need?). He is a senior fellow at the Cato Institute. He was the chief economist for the United States Chamber of Commerce under Reagan. His passions are small government and classical liberalism. Classical liberalism would be John Locke, Benjamin Constant, Edmund Burke, some of the great writers of 100-200 years ago, who had a huge influence, and are the forefathers of what perhaps you could call the conservative, or libertarian, movements.
Kevin: Right. Life, liberty, and private property.
David: He has written for the New York Times, the Wall Street Journal, the National Review. He is a really interesting guy. I enjoyed spending some time with him, and we will talk about some issues with him, as well.
Kevin: Why don’t we go to the conversation with Frank Suess first, because a lot of our clients have been talking about the changes that are occurring right now with the legal system, as far as international investments. The changes have been profound, and Frank talks to you about that during this time together.
David: Exactly. Let’s go to that.
Frank, in the last few days, we have been here in the Bahamas and we have talked about a lot of different things, from investing internationally, to legislative changes in the U.S., but the whole focus has been with sort of an international orientation. We have met with some great people in the conference down here in the Bahamas. It is always good to see you here, and of course, it is always good to see you in Switzerland, too.
It is helpful for our listeners to have some perspective which is non U.S, particularly on international issues, so your involvement with our wealth management group has been greatly appreciated. Our cooperative engagement with Global Gold, a Swiss storage company, has also been really fun to work with you on, and we will talk a little bit about that today, too.
I just want to get your perspective on changes, legislatively, both positive and negative. On the negative side we have FATCA, and on the positive side we have some estate planning opportunities, but with a very limited window, about 24 months. Maybe you could explore those, and then we will spend some time talking about Global Gold, too.
Frank Suess: Thanks, Dave. First of all, thanks for having me here on this recording. It is always good to see you, too, not just in Switzerland, not just here, but anywhere, if it is Vegas or Bali, we have had some fun together climbing, and I always enjoy that very much.
David, having you on the show, on the Inner Circle briefing, has been hugely beneficial, I think, to the people that attended, because I think having both the U.S. site covered very well, and on the other hand, having an international perspective, putting that together, and putting that into the Inner Circle briefing has been, I think, very valuable to them.
The legislations in the U.S. have changed a lot. It seems like the U.S. Congress is extremely efficient and effective and creative in bringing out new laws every few minutes. I am amazed at that. When you see this from the outside you wonder what is going on. One of the most draconian laws which has come out recently is FATCA. FATCA stands for Foreign Account Transaction Compliance Act.
I think it is a law that you need to talk about more in the U.S. I think you need everyone to know about this law. On the one hand, it is a law that, I think, will create huge problems for Americans. It can create problems for the global economy. This law comes at a time when the U.S. economy and the financial system is not strong, and I think we would agree on the situation that this is the worst time you would want to have a reduction in capital flows into the U.S.
David: Tell us about some of the things that are required by the law, because frankly, when we were discussing it here the last few days, it looked to me like it could be one of the pieces of legislation which precipitates even a collapse in the stock market as it ends up restricting, unintentionally, of course, but still, it ends up restricting capital flows investing into things like the New York Stock Exchange, and the American Stock Exchange, because of what it implies. Maybe you could tell us some more about that.
Frank: That is absolutely right. To sum up the law, some of your listeners will know that in around 2000 the IRS went around and went into agreements, so-called qualified intermediary agreements – QI agreements – with international banks. The banks, at that point in time, had the choice of either withholding 30% tax on U.S. sourced income, or having to divulge the identity of their clients if they wanted to continue to be able to have access to U.S. securities. If they wanted to be able to continue investing in U.S. stock markets, in U.S. bonds, and so on, they had to sign that agreement.
A lot of banks signed that agreement. That agreement was not even close to what FATCA now is, in that you could still retain client privacy, and it was not extending itself beyond banks. FATCA, which is part of the HIRE Act, extends itself beyond banks. It is directed toward what they call FFIs or foreign financial institutions. What the IRS says is that any U.S. sourced payment going to a foreign financial institution, which is not what they call a qualified foreign financial institution – a qualified foreign financial institution is an institution that would sign that agreement with the IRS – any payment that comes from the U.S. that goes to an institution which is what they call a non-cooperative foreign financial institution, will be subject to 30% withholding tax, and that is not on gains, that is on the proceeds.
I think they are shooting themselves in the foot with this, and they are endangering the U.S. stock market, because foreign banks now have a few options. A lot of them, I think, will choose the option of no longer investing in the U.S. Markets. A lot of them will send U.S. clients away.
What that is doing, really, is bringing down the competitiveness of U.S. businesses, of U.S. business people overseas. There was recently a letter that was sent by American Citizens Abroad – ACA, which is a non-profit organization – they sent a letter to Congress, and that letter, I think, I would recommend to anyone who wants to know about the law, to read that letter.
One of the things they say, and they are very outspoken in that letter, is that the U.S., with this law, is creating a two-tiered banking system, and it is really forcing Americans overseas into noncompliance. There are several problems with this law that are explained very well in that letter. I would recommend everyone reads that.
David: Frank, it seems like there are implications into the financial markets. You have the alternative of just choosing to trade in other markets. You do not have to trade New York to have exposure to high-quality companies all around the world. You could trade in the Swiss market, you could trade in the London market, you could trade in the German market. The German market is now taking over the NYSE, the Deutsche Börse is purchasing them. Why not just invest through Switzerland, and see those capital flows go there, or in Germany, or anywhere in Asia – the Shanghai exchange? There are alternatives to the NYSE, and essentially, we are making ourselves less attractive to an international audience, at a time when we really do need foreign capital flows, both into our domestic U.S. equity and bond markets.
Frank: Recently one of the large international resources companies has re-domiciled to Geneva. They went out of the U.S., and I forget what the name of the company was, but it was a larger company, I think an oil company. There have been several companies going out of the U.S., leaving the New York Stock Exchange and licensing, or registering, with other stock exchanges.
One of the things that this law does, in a way, is that it creates, first of all, I think, a certain degree of backlash from abroad, because it is really a law that shoves certain requirements down everyone else’s throats, and in a time when it would be important to be politically constructive, I think it creates some bad atmosphere.
David: Geopolitically destructive.
Frank: Geopolitically. There are a lot of countries in Europe, and there are several financial institutions, and governments, that are starting to wonder about this. So far it has not really hit the press in Switzerland, it has really been dealt with kind of hush-hush, but I know several banks that already have said, either they will no longer work with American clients, or they will no longer invest in the U.S. securities. And it is not just the change of the registration on a stock exchange, it is really the registration of the domicile of the company.
The way they want to make it work is that they have so-called withholding agents. Those are a variety of commercial banks in the U.S. that would withhold any payment that goes overseas which does not go to a QFFI. That is the system that they are thinking of.
David: Basically, turning the entire banking system into a reporting service for the IRS.
Frank: Correct. That is what they want, and it is not just the U.S. system, it is the global system that they want to turn into a reporting system.
David: Not only are they actually hiring new IRS agents, but they are recategorizing your job description as a banker to be, basically, a subsidiary branch of the IRS.
Kevin: Not just bankers, it really is insurance companies, it is hedge funds, it is pension funds. You can imagine a lot of pension funds have certain requirements to invest in so-called safe investments, among them also treasury bills, and you can imagine that some of those pension funds, when they decide to no longer invest in treasury bills, that again could hurt the U.S. and the global economy.
There are a lot of things in this law which are not clear yet. There is a bit of a backlash. There are a lot of letters flowing to Congress. So we will have to see in the end, how, in fact, it is implemented.
One of the big questions, for example, at this point, which is not clear is: How will dollar flows, how will dollar remittances, internationally, be handled? If you have a cash wire transfer from New York to Switzerland, to a Swiss bank, and it is not a security, it is not an investment, it is simply cash, how will that be treated? It is not clear at this point. That, again, could put pressure on the dollar, and there are several questions like that, including what is totally unclear right now, which is, how will collective investment schemes be dealt with? Hedge funds, ETFs, and so on. How are they going to deal with that?
What the law wants is that the bank that is a QFFI has to know whether down the chain of investments somewhere there is a U.S. person involved. You could have an international trust of an Italian family, and you will be required to see whether anywhere in that family there might be some sibling or some child in the U.S., studying. You have to find out if there is, somewhere, an American that is involved in this investment. Those details have not been carved out and made clear yet, so there are still a lot of question marks.
David: 2013? That is approximately the date?
Frank: Right. 2013. This should be implemented then.
David: On the estate planning side, it seems that there is sort of a once-in-a-lifetime opportunity which has been granted, but it is for a very short period of time, a negotiated peace, if you will, with the recent tax decision in the United States. Maybe you want to talk about that.
Frank: The U.S. has two primary tax regimes. One is income tax, and the little brother of income tax is capital gains tax. On the other side there is estate tax, with the little brother being gift tax. If you want to avoid estate tax, what you want to do is remove assets from your estate. You either gift it away to your children, or you can gift it away or remove it in other ways, for example, to a grant or trust, to an irrevocable discretionary trust.
There are different ways of doing that. So far, in the past, there has been a lifetime gift tax credit of 1 million dollars per spouse, or per person. That recently, as part of the Tax Relief Act, was changed by Obama, and it has actually been increased, for this year and next year, to 5 million dollars. I think that is a huge opportunity for estate planning for people.
David: That is 10 million cumulative, between two people.
Frank: Correct. Yes.
David: So you could actually take out 10 million dollars from your taxable estate, through gifting to other people in your family, reducing that out from the estate, but that reverts back to, at least the 1 million, and that may be changed, but as it stands now, it reverts back to the 1 million figure.
Frank: That is what it looks like right now. Who knows what is going to happen in two years, but right now it looks like it will go back to 1 million. What you mentioned also is that in addition to the 5 million, which is a much higher exemption at this point, you also pay less gift tax, you only pay 35%, so if you go beyond your lifetime gift tax credit, there is also a lower rate. It is not the 55% that has been the case in the past, it is now 35%, which may be the lowest you may see in a while, depending on how things go in Washington.
David: It sounds to me like the legislators know what is coming in 2012, and are doing everything that they can to do their own estate planning, and may have signed this, if for no one else’s benefit, for their own.
Frank: It looks like it is part of the compromise that Obama had to reach with some of the Republicans in Congress.
David: For anyone interested, estate planning needs to be prioritized over the next 24 months with that one Tax Relief Act issue in mind.
Frank: Right. In the Inner Circle briefing, the seminar that we just had together, the theme that obviously came up is safety. How can I safely protect what I have? One of the things that is important in safety is wealth preservation, making sure that not just on an asset allocation side, but also from a regulatory standpoint, the structure that you use when you go overseas is done well.
This estate planning opportunity window really opens up a possibility to not only have estate tax efficiency down the road, but also, in addition, include some tools that will allow you to have income tax planning, and together it can really create a very powerful mix for wealthy families and individuals to prepare for higher taxes in the future.
David: That is on the regulatory planning side. We said we were going to talk a little bit about Global Gold, which comes back to the asset allocation side, in terms of wealth preservation. This has been a project we have worked on together since 2008. Maybe you can give us an update as to where Global Gold is, and how you are expanding that business in Switzerland.
Frank: As you know, when we stared Global Gold, it was really a project that I think both you and I had intended to be a service for our clients. It was mainly a situation, and we both agree on the big picture, in that debts and deficits are probably not going to improve in the next few years, at least not in the western hemisphere. Switzerland is one of the very few countries that has had a budget surplus over the past few years, and you can expect more monetary and fiscal policies to go in one direction only.
In that context, over the past few years, and you have been recommending precious metals for several years now, as we have, more and more of our clients, both yours and ours, have said, “Where can we store our metals? Where can we store, or physically allocate, precious metals, in Switzerland, in a safe jurisdiction, out of the reach of the government?”
This is a program which now has grown and is getting interest, not just from American clients, obviously, but from Germans, from Italians, from the French. It is great for both of us to see how this is developing. For Global Gold, working with McAlvany Financial Group, as an advisor, and as a program partner, has been wonderful. I think both you and I are happy to see that this thing is moving ahead, and a lot of clients are taking advantage of it.
David: I think one of the things that is nice about the Global Gold program is that you do have greater assurances that the metals are actually there. There are so many products out there today in which you have a proxy for the price of gold and silver, or you do have physical metals, but the ownership is somewhat dubious – not that the metals are actually there, but that you could actually have them. You own fractions, grams, if you will, in a 400-ounce good-delivery bar. Those do not get shaved off for you when you want them. There are additional transactions, and additional supply constraints which have to be addressed in the future, if you ever truly want delivery. In the Global Gold program, it is a fully allocated program, so what you buy is what you get, and you can have it delivered to you anywhere in the world. Some unique options.
Frank: I agree. I think, for anyone who wants to have physically allocated metals as an insurance, as a wealth preservation tool, and we are not talking about precious metals trading, but really as an insurance against what is going on in the big picture, the core difference with Global Gold is the fact that you own it, physically allocated 1-to-1. If you have bought 100 krugerrand, you have 100 krugerrand, and they can be delivered, they can be sold at any time, even during a crisis. That is where the difference comes in. Even, and particularly during, a crisis, you want to have access.
Most other products, we often call them paper metal products, ETFs have been very prominent and popular, most of those products, in a crisis situation, will not be accessible. That can be for many reasons. It can be for the fact that the New York Stock Exchange is down. It can be for the fact that there have been a lot of redemptions.
A lot of the funds, the ETFs, have clauses in there where if there are a lot of redemptions at once, they will suspend trading. Those kinds of clauses that you see, very often, are cash settlement clauses. Most of these banking products, including claim accounts, and so on, have cash settlement clauses, which means that in case of a crisis, in case of a lot of redemptions, everyone wanting to sell at one time, and that is exactly what will happen in a crisis, that is the precise time when those products will not be accessible, or what you will get is cash instead of precious metals. That is not what you want in the crisis ahead.
David: We have seen a big increase in interest from international clients for the Global Gold product, because it is always an issue when you are buying significant quantities of metals overseas, a lot of places you may not actually want to keep your metals.
In mainland China, maybe it is okay today, but, you think, tomorrow it is somewhat questionable. Your future can be determined by a nine-member politburo, and it makes sense to diversify internationally. Or from India, and certainly for American clients, this is an option, and we have seen good receptivity there, too. But for anyone listening from around the world, how do you have metals that are accessible, that are physically existent in one place, and in a great, as you mention, probably the best, jurisdiction on the planet, in Switzerland? It is a great program for international investors, too.
Frank: I think that was one of the challenges, really, in putting the program up. You have been in the precious metals business for many years, and you know that one of the challenges is transactional efficiency. When you are dealing with physical precious metals and not simply with a fractional situation where all you are doing is really booking a transaction, you are actually really delivering, moving precious metals around, and obviously there is a lot involved.
I think the great thing about Global Gold is that it is efficient, it is convenient, the pricing is very competitive, and for investors from around the world, from Germany, from the U.S., it is important for them that, contrary to, for instance, a safe deposit box, they do not have to travel to go and get their metals, to get it physically or sell it, they do not have to look for a buyer in that situation, it is all set up, and it can be done efficiently, conveniently, and without the internet, and without the banking system. I think that is a huge advantage.
David: Frank, it was good to see you again, and I would like to be heading back to Switzerland with you right about now to go skiing. If not this year, maybe next year.
Frank: Those Stöckli skis, we have to go and try them together.
David: Oh, they are fantastic. They are fantastic.
Frank: Thank you for having me, David. I enjoyed it.
David: I look forward to seeing you soon.
Kevin: David, after talking to Frank Suess, of course, you talked to Richard Rahn of the Cato Institute.
David: Kevin, these were fascinating conversations, both with Richard, and with Frank, because we are getting an international perspective from Frank, certainly, and also a bit of that with Richard, too. He was responsible for the economic transition in Bulgaria in the 1990s, so from an economist’s standpoint, he spent more time doing stuff as an economist than writing books, which is really interesting, and he prioritizes privacy, some of the issues that we talked about with Frank, on FATCA, and some of the legislation that is pending. Let’s go to that conversation, too.
Richard, thanks for joining us. I read in Richard Duncan’s book, The Corruption of Capitalism, recently, this concept of a transition from capitalism to debtism, and from debtism to statism. I thought maybe we could explore some of the things that perhaps represent modern statism.
We have FATCA, new legislation which is coming down the pike, implementable by 2013, and a whole host of other things. I would like for you to jump in and just show us, what is the state of our union? Explore with me a little bit what the primary challenges are that we face as investors, as individuals, as patriots, trying to look at the American dream and hold onto some part of it.
Richard Rahn: Our founding fathers were clearly aware, and stated very explicitly, that the normal course was for liberty to recede – I think Jefferson said it – for liberty to recede and the state to grow. That was true even 250 years ago. Really, in America it was amazing, that we were able to keep the Constitution as long as we did. I am one of those people who is a long-run optimist, and hoping that the current crisis will drive us back toward classical liberty. It is not at all foreordained. We could end up being a totally statist totalitarian state.
The problem is, there is not sort of a steady state of affairs. You either head toward less freedom, or toward more freedom. The last 20 years was really mixed. We had these terrible wars, and the worst type of governmental systems ever devised by the mind of man – Communism, Nazism, and so forth – came into place. On the other hand, the decade of the 1980s and 1990s, those two decades, were ones of a great expansion of freedom around the globe. Most every measure of individual liberty grew, and along with it, economic prosperity, if we look at the number of countries that were labeled free by Freedom House, where we were in 1980 versus where we were in 2000.
Now, the idea of the totalitarian countries, there are still a few of them left, but they are a distinct minority, and free market democratic capitalism won, in a way, except the constraints that are necessary, people did not understand, and those were the constraints on the growth of government. The Swiss had it down well, because they have a federal democracy, and it is not only that they are a direct democracy, it is not only that individuals have to vote for a particular policy, program or law, but also, the majority of the cantons.
David: That is similar to our old system.
Richard: Yes, it is very similar to the U.S. really, previous to the Civil War. I often daydream about what the United States would have been like if we had never had slavery to begin with. We would have been a much more free society The Civil War was necessary because of slavery, but it really did erode the federal republic. The South was right on the concept of state’s rights, but they were trying to defend the indefensible, which was slavery, which totally contradicted what the U.S. stood for. Switzerland, of course, avoided that. The Swiss problem is that they are surrounded by statist neighbors, who constantly pressure them to look like them.
I think the great danger in the world today, one of the many great dangers, is the pressure to build uniform tax and spending systems, and regulatory systems. Competition, we know, is very good. Competition is vital for athletic performance, in order to get the best. Competition is vital for any economy, to businessmen competing, bringing new goods and services. That is what makes the world go round. Competition between states, particularly peaceful competition, like tax competition, regulatory competition, competition in government services, is very important, because with the competition, you figure out what works and what doesn’t – what the optimum size of government should be.
Now, there is this great pressure, and the OECD, that is the Organization for Economic Cooperation and Development, which was originally set up by the G7 several decades ago, has gotten into this whole process of arbitrating what is harmful tax competition. They really have become controlled by the French, and some of the other European statists.
Much of what they do relates to arguing for higher taxes, and for less financial privacy, which is key to civil society, and that has been eroded, and there is this great battle going on right now. One thing I do with my talks, doing radio, T.V., and writings, and so forth, is trying to get more people involved in the battle, because if people understood what was going on, the facts are on the side of those of us who believe in economic growth and freedom. We know that tax rates, virtually across the world, are too high to maximize economic growth. Government spending is way too high to maximize social welfare over the long-run. We are becoming more dependent.
I worked in the transition in Eastern Europe and the former Soviet Union, and one of the great things was they had shucked off the old economic system, which was virtually 100% state control. Many of the new democracies in Eastern Europe have much smaller governments than what we have in Western Europe, and in many ways are more free and far more vibrant. In Bulgaria, I chaired the economic transition team back in 1990. Bulgaria now has a 10% maximum individual income tax, 10% maximum corporate tax. It was brought about by a free market think tank that we helped establish at the Institute for American Economics.
David: You actually wrote a book back in 1999 just prior to starting your group, the Institute for Global Economic Growth, that dealt with financial privacy. You said it was vital to civil society. Perhaps you could explore FATCA, and the erosion in the present tense, of financial privacy.
Richard: Just think about it for a moment. If you had zero financial privacy, if all of your bank accounts were online for anybody to see, every expenditure ever made through a credit card, through cash, or anything, was recorded, was put out online, where it was all stripped away from you, it would destroy, in many ways, much of your personal life. People have preferences that are not always shared by everybody else.
If you were giving a lot to a church, you would have some people claiming you were some kind of religious nut. I mean it just goes on, and we know humans do many different things, and we know governments, particularly, use information about individuals to oppress them. I saw it happen in Eastern Europe in the former Soviet Union, and you could not do business if you had no financial privacy. The moment you made any investment, everybody would know. Often, there are strategic reasons why you make particular investments, make particular purchases, and these can be distorted.
Let’s say you have a private company. It is nobody’s business, with a private company, whether you invest more, or less, in it. I live outside of Washington, D.C., in northern Virginia, but I have been involved with the Washington scene for many decades, and I watch how people’s lives are abused, and destroyed, by information disclosure which is often just totally innocent, that is nobody’s business, really. This happens time and time again, and you do not want to live in that kind of a world, because if everybody was a saint, then maybe full financial disclosure would not be a bad thing, but we know, in the real world, people are not, and it will be used against you. There is this huge pressure now, from these international financial regulators, to make everything “transparent.”
David: This ties back to what you were talking about, a uniform tax and regulatory system.
Richard: Yes. You mentioned FATCA, which is the Foreign Accounts Transactions Compliance Act. It is an evil thing. What it is doing is, for non-U.S. financial institutions, banks or other financial institutions, if they have investors who happen to be U.S. citizens, or green card holders, or just U.S. taxpersons, as defined by the IRS, which is a very broad definition, and if the institution does not know this, and does not report it to the IRS, the officers and the company, itself, can be held, both civilly, and criminally, liable.
Let’s assume you are a bank in Switzerland or Luxemburg or wherever else. Somebody walks into your bank and they have, for example, a Greek name. They speak Greek. For all intents and purposes, you have no knowledge they are not Greek and they present you with a Greek passport. You, as a banker, look at the basic picture, you ask them about the source of the money. They have a business in Greece, a restaurant, for example, and they say this money comes from the earnings of their restaurant, and you do not have any reason to disbelieve them, so you open an account for them.
Later on, you learn that they are also a U.S. citizen. You may learn this when the IRS comes in and says they have a U.S. passport too, or they are a green card holder. Suddenly, the bank is held criminally and civilly liable. So the risk is so great here, that a number of foreign bankers now will not take U.S. citizens, nor will they invest into the U.S.
David: Those are two radical things, because on the one hand, it has accomplished the same thing as exchange controls, not so much as erecting barriers to keep people out, but you punish anyone who takes money from the U.S. person, which basically does trap an American person in the United States, financially. But what you just said about financial markets, without foreign direct investment into stocks and bonds, if you penalize or raise the bar such that institutions will not touch it, you realize how critical that is to the stability in the stock market.
Richard: Yes. The U.S. has trillions of dollars of foreign investment. Non-Americans are not taxed on their U.S. portfolio investments – interest, dividends, capital gains. That was explicitly put in the law in the 1920s, and it has been reaffirmed time and time again, because Congress realized that foreign investment is desirable. It creates jobs, productivity growth, and everything else in the U.S., and so they did not want to tax foreigners. The foreign governments often taxed their own citizens, but that is between the foreign citizen and his or her own government. The U.S. has been trying to attract foreign investment on one side, and now we have this draconian measure to really penalize it.
That is not the only bad thing that is out there. The Obama administration just revived something that has been dormant for years, and that is an interest reporting requirement. As I just mentioned, the U.S. does not tax interest on foreigners who invest in our stocks and bonds, government bonds, or corporate bonds. Now, financial institutions are required to report – at least this is the proposal, it has not gone to law yet – their interest payments to foreign citizens so the IRS can pass along the information to their government, and so we put a regulatory burden on U.S. financial institutions to help make them tax collectors for foreign governments. First of all, what interest does the U.S. have in helping foreign governments collect their taxes? I do not understand where that is in our Constitution.
David: It is not in our Constitution, but they may be looking for a quid pro quo.
Richard: Well, they sometimes are, but it is one thing to report, let’s say, to the government of Finland, or even the U.K., or Australia, or New Zealand, but once this practice is installed, how about reporting to the government of Venezuela, when you have many people who are under oppression by Hugo Chavez in Venezuela, who is a dictator, and an oppressor? Do you want him, or do you want the Castro brothers, to know?
David: Coming to the land of the free and the home of brave, only to have us reporting back to oppressive regimes.
Richard: Exactly, and you can go around the world – the Arab regimes, for example. There are at least a hundred countries in the world that you do not want this information going to. And you wonder what the mindset in Washington is that they think, “Oh, this is perfectly fine, to force U.S. financial institutions to report on people who have escaped oppression from someplace in the world, back to their own governments.” It is morally repugnant, it is economically stupid and suicidal, and I really cannot say enough bad things about the folks in Washington who support this, and I have let them know, I write it in my columns. People who are for these things are mental and moral midgets.
David: You have plenty of interaction there on the hill. You write regularly for the Washington Times. Do you find that there is responsiveness, when you get with senatorial staff, or the Senators themselves, that they get it, they understand, that “Oh really, that’s what that is about?” Is there any sensitivity to these issues?
Richard: There is, often, but the trouble is, you have so many of these measures, and the members of Congress do not even know what they are voting on, and often their staffs do not. I work with the Cato Institute and a number of the other free market think tanks, and one of the major things we try to do is teach economics and these things to the staff and to the members.
You have some members who get it right off. For instance, Congressman Paul Ryan from Wisconsin, who is a very good economist in his own right, and I just pull him out as an example, as what you would like members of Congress to be like: A first-rate intellect, a man of great integrity, dynamic, doing the right things. And then, you have others who, and I do not understand the mentality, but they care little about the truth or economic consequences, even, at times, against the interests of their own states. I will point out Senator Schumer of New York. Many of the stances he takes hurt the financial markets in the state of New York. You have people who I view as fundamentally corrupt, former Senator Dodd – at least he has left – and Barney Frank from Massachusetts.
David: But isn’t it interesting, fundamentally corrupt, and yet, in the financial services industry, we are going to be subject to the laws and the rules of the Dodd-Frank group. How is that for irony?
Richard: Yes. The thing is, the laws named after them are causing more problems, and they never got to the fundamental issue, which was Freddie Mac and Fannie Mae, the two government-sponsored institutions that were largely responsible for bringing the financial disaster all about. These people are lauded with this big financial “reform,” which will only, and is already, making things worse, and it was pushed through by corrupt individuals who were the problem, not the solution.
David: You say you are long-term bullish. Bullish was not your word, but long-term positive. What do you see changing in Washington that would make you positive?
Richard: We go through these periods of doing really bad things. I am old enough to remember the 1970s, and Jimmy Carter, and one quarter we had a 14% inflation rate, a 21% prime rate, a totally incompetent chairman of the Federal Reserve and Secretary of the Treasury, and we were doing a lot of wrong things. That opened the door for Ronald Reagan, who had the great gift to be able to explain things.
He was the last president to have a degree in economics, and as an economist I am somewhat biased toward that. But he could explain things in a way that people got it, and he knew where to head, and he reduced our national tax rates, held the lid on government spending, did a regulatory reform. He did the right things, and we went from the deep recession to get rid of the inflation, to in 1983 and 1984 the economy just absolutely booming. Some quarters were going up as much as 9% for the whole year in 1984.
David: That launched us into the greatest equity bull market.
Richard: Yes, and we had 7.6% economic growth. That kind of stuff can be done today, and what we saw in the election in November was the beginning. So far the new Ronald Reagan has not emerged, but there are people out there who get it, and, unfortunately, I think we may have to go through another big downturn, because the Obama administration is not at all serious about dealing with the budget problem and the question is, are we going to go like Greece?
And when these things happen, it is not the end of the world, but what happens is, everybody’s income is drastically reduced as the inflation comes along as a way of taking care of the excess debt and spending. It will not be pleasant, but there are two ways these things go. They can go toward a totalitarian system, or they can bring in a Ronald Reagan or a Margaret Thatcher, and we have seen those kinds of things happen in many places.
David: We really are at that juncture, aren’t we, where things get significantly more statist and totalitarian, or…
Richard: The government, if you just take a look at the projections, and these are just U.S. government projections – we go off the cliff here, and the question is, do we do it 18 months from now, or do they manage to drag it out 3 or 4 years? But at some point, because our debt/GDP ratio is rising so rapidly, and as we see inflation picking up now, then at some point, interest rates really begin to rise.
The Fed cannot paper this over forever, and as these interest rates rise, the amount the government has to pay on debt service explodes. Right now, the U.S. government has made a huge mistake, because they have shortened the debt maturities, and so when the inflation comes in, it is going to come in with a tremendous punch on the cost of government debt.
David: Why haven’t they extended the maturities? Why have they kept everything short? 70% comes due in the next three years. That is a huge burden to roll over.
Richard: Because short-term rates are virtually zero because…
David: It is free money.
Richard: Yes, it is a government Ponzi scheme, and it is a way of “holding down the deficit.” Of course, it just makes matters worse for the longer run. Anyway, at some point this will burst open, and I cannot tell you the day and the month, but it is going to happen, we know it is going to happen, and at that point, the calamity will be upon us, and in the U.S., because we print our own money, I expect the government will continue to pay Medicare and Social Security and other things, but the money they use to pay will not be worth very much.
We already see this, where Social Security recipients did not get any cost of living rise this past year, but the government said there was no inflation. Well, it is the way we measure inflation. Food and energy and things people buy were rising in price, and they said the prices of big, flat-screen TVs was falling. Well, fine, but the things that people really need, and particularly if you are in the lower end of the income scale, saw big inflation. If you are wealthy, and you spend very little of your income on food and fuel, and you buy bigger consumer electronics, you said, well, it sort of evened out. But that will not continue.
David: Richard, I want to thank you for joining us and we will be interested in touching base with you in the future as we get to know Cato better, and as our listeners explore some of the groups that are doing what they can to really turn this thing around.
Kevin: David, both of those people that you talked to, both Frank and Richard, were very insightful on what is going on right now internationally, but you also had a chance to just sit down and talk to Mark Skousen, and I know you two go back to your childhood. Tell me a little bit about your talk with Mark.
David: Yes, it was good to see him. It is usually a calmer environment in the Bahamas. He spent some time living in the Bahamas for a few years. It just seems to be very relaxed there. We usually see him at Freedom Fest, which is in July, in Las Vegas, and we will see him there again this year. We will be featured speakers there, as well. He is usually very, very busy. There are thousands of people who show up for the conference, and we would encourage our listeners to consider putting that on the calendar.
Kevin: Sure, the Freedom Fest is always a great time to hear good speakers. It is a good chance to hear you, David, in a live setting. For the people who could not make it to the Bahamas, I definitely recommend they look into the Freedom Fest in July. I think it is the 14th through the 16th.
David: Yes, and stateside, it is a great opportunity for us to sit down with clients in the mid country, where we are not East Coast, or West Coast, but it is an easy place to get to.
Kevin: Let’s listen to that conversation.
David: Mark, we have known each other a long time. We have traveled to Asia and have seen different parts of the world, and now, from slightly different vantage points, we are looking at the world. You are in New York, and we are in Durango, Colorado. We are asking similar questions, trying to make heads or tails of what is happening in the economy.
Mark Skousen: Did you go to South Africa with your dad?
Mark: Yes, so we went on that one, as well.
David: All over the world, multiple times, and then some.
Mark: The United States, yes.
David: If you go back to when you and my dad were interested in these things in the 1960s and 1970s, there was much more of a sense of fight.
Mark: There was, yes.
David: And comraderie, and commitment to ideals, even if it included personal sacrifice. You saw the conservative movement willing to spend their own precious capital to take the country in a particular direction. In the last 10-15 years, it seems like things have become much more myopic, and even self-centered. Where is the conservative movement? It seems like there is more flight, than fight, and is the Freedom Fest something that people can center on to say no, whether it is Tea Party activism, or not even party-specific activism, but we do need to let government know that, as individuals, we are autonomous, and our rights need to be respected. They work for us, by the way. Have you set dates for the July conference?
Mark: July 14th through the 16th. It actually starts on Bastille Day. We have kind of a French theme this time, of Liberty, Equality, and Fraternity, and I think there is a libertarian version of all of those things, of liberty and equality, all men are created equal, endowed by their Creator with certain inalienable rights, so equality of opportunity. And fraternity is so important, because too often we are these herds of cats, going in different directions, and we need to come together.
The other question is: Is the Tea Party movement the beginning of another American revolution, or another French revolution? The French revolution ended very badly, you know. To what extent are Americans corrupted by the welfare system, and therefore they are just reacting to their potential loss of benefits? This is what happened in Egypt. It was not so much freedom they were voting for, a lot of them were objecting because they were not getting the handouts that they were used to. Those had been cut back by the government.
David: That could become the reality here in the States very quickly.
Mark: Oh yeah.
David: As we get closer to the date in July, there will be other questions that maybe we can discuss of an economic and financial nature, but thanks for joining us.
Mark: Great. My pleasure, David.
Kevin: David, you also met Tom Hudson. He is the co-host of the Nightly Business Report on PBS. I know that the interview next week will be directly with Tom Hudson. What are some of the reasons that you wanted to talk to Tom on this program?
David: Kevin, looking back at the recordings that we did in the Bahamas, I thought it was important for our listeners to have a snapshot of the kinds of dialogue that were taking place down there, and the issues that were addressed. This is difficult to do in a summary, bullet-point format, so I am looking forward in future weeks to coming back to our regular format and looking at issues that are in the marketplace today, day by day, week by week.
This next week, as you mentioned, Tom Hudson is joining us. I met him in the Bahamas. He was moderating one of the discussion panels that I was on, and then he was on a subsequent discussion panel with me. Each night you can find him on PBS. He does the Nightly Business Report for PBS. He is a very in-tune gentleman, and I enjoyed the interactions that we had there at the podium, but I wanted to bring in an element that we have not had before, which is a media perspective on the news and on the economy.
His media perspective is unique in that, working with PBS, it is a noncommercial media outlet. That is not to say that people do not have their particular viewpoints, or vantage points, in terms of looking at information, but you see less of the WWF version, you know, Jim Cramer, blowing the bullhorn. This is not bread and circus entertainment for the masses.
Talking with Tom, I really got the sense that he cares about the individual understanding what is happening, and the educational side is something that they are trying to focus on more and more, where the viewer gets it. Not using language that is beyond, and so select to the financial universe, but is something that everyone can appreciate, and make good judgments on the basis of. So I want to get that perspective, Kevin. He is a career media guy, and a very bright guy, at that, with a particular interest and specialty in commodities and derivatives. Those are two areas where we have interest, both on the risk management side, and looking at potential reward.
Kevin: We will be looking forward to that interview, David.