The Insanity of Not Having a Financial Transaction Tax by Paul Buchheit

The logic for the tax is indisputable:

1. Financial industry speculation devastated middle-class homeowner wealth.
2. U.S. investors pay zero tax on their speculative transactions.
3. The tax is easy to implement and is very successful in other countries.

The emotional appeal reaches most of America:

Why should the rest of us pay up to 10% on the necessities of life while risky derivative purchases aren't taxed at all? Why should kids around the country lose their arts programs while trillions of dollars flow, untaxed, to Wall Street?

On July 8th, 2013, Chicago Political Economy Group (CPEG) member Bill Barclay and Illinois Green Party Chair Rich Whitney presented arguments for the Financial Transaction Tax (FTT) in front of the Illinois Pension Reform Committee. The video is available here (01:29:40), and the slideshow here. Much of the following derives from their work.

The Tax Works in Countries with the 'Freest' Economies:

A good place to start is Singapore. Or Hong Kong or Switzerland. These are three of the top five countries on the Heritage Foundation's Index of Economic Freedom, and they all have FTTs. Critics who might argue that non-FTT taxes are lower in Singapore and Hong Kong should look at World Bank and CIA World Factbook datasets, both of which show the U.S. with lower tax revenues as a percentage of GDP. The U.S. is clearly under taxed across a wide range of taxes.

Unimaginable amounts are being traded in the U.S. with zero tax. Unfortunately, in our country, discussions about pension reform and education and infrastructure usually lead to talk about further cutbacks, as if that were the only solution. But pension funds and schools lost money because of financial industry malfeasance. And yet the financial industry keeps surging ahead. The 2012 trading volume for the Chicago Mercantile Group (CME) alone was $806 trillion, about 12 times more than the entire world GDP. In 2011 it was over $1,000 trillion -- that's a mind-dizzying $1 quadrillion.

There's no sales tax on all that, just a tiny administrative fee. We've had to look elsewhere for our education funds. As Whitney noted, "Our tax system taxes poverty far more than it taxes wealth."

A Tiny Tax Would Pay the Entire 2013 Federal Education Budget:

A bill sponsored by Illinois Representative Mary Flowers would impose a modest .01% tax on CME stock and derivative trades. It would not include transactions involving securities held in retirement or mutual fund accounts. With this little tax, at current trading levels, up to $80 billion would be realized annually. Chicago-area trading alone would pay the entire federal education bill.

It's Easy to Administer -- Especially for One of the Most Profitable Companies in America:

What are the objections? Administrative cost and inconvenience? No, the FTT is easy to administer and difficult to evade. Clearing houses already review all trades and serve as collection agencies for transaction fees.

How about the threat of a move to another state or country to avoid new taxes? It's hard to imagine that from the CME Group, made up of the Chicago Mercantile Exchange and the Chicago Board of Trade. From 2008 to 2010 the company had a profit margin higher than any of the top 100 companies in the nation.

Big Revenues, Little Risk:

Objections to the FTT seem superficial in light of the two main benefits: (1) The massive revenue potential, and (2) the likelihood of limiting the speculative trading that contributed to the financial meltdown in 2008. Informed Americans are in agreement on this. The tax is simple and effective and fair and long-overdue and obvious to everyone except the business-friendly members of Congress.

Paul Buchheit is a college teacher with formal training in language development and cognitive science. He is the founder and developer of social justice and educational websites (UsAgainstGreed.org, RappingHistory.org, PayUpNow.org), and the editor and main author of "American Wars: Illusions and Realities" (Clarity Press). He can be reached at paul@UsAgainstGreed.org.

This article was published at NationofChange at: http://www.nationofchange.org/insanity-not-having-financial-transaction-tax-1374501966.

Chicago, 1959

Sometimes I wish I could have lived

someone else’s poem

and go back to Chicago to ride

the Ravenswood ‘L’ through landscapes

of dis-integrated streets with John Dickson,

or live in New York and watch Dorothy Blake

draw [another] long line of phlegm

[and] ooze it into the open bottle

on her school desk alongside Len Roberts’.

I could sing along in silence

while riding to Smithville Methodist church

with Stephen Dunn from New Jersey;

or pump the vibrato’s thin blade

and stir the molecules of sound

with Michael Collier in Phoenix, Arizona;

or even live in Williamsport, Pennsylvania

and play a game of sandlot baseball

in an empty lot, ringed by elms and fir

and honeysuckle with Gregory Djanikian.

But this is the poem I lived

a long time ago in the old neighborhood,

a place where we played ring-a-levio in gangways,

where alley rats were our only fear

lurking in dark corners of cold-water flats

while we played on past nine o’clock,

and lovers embraced in dark passageways

outside unlocked doors throughout the night.

It was a time when little boys

in Davy Crockett hats

imagined they were defending the Alamo,

and little girls in strapped-on roller skates rolled along

treeless sidewalks while we played fast pitch

against a lit-up humming factory wall

far beneath six thousand city stars

without ozone, kidnapping or terrorists’ alerts.

It was a place where teen-age gals,

wrapped in poodle skirts, bobby socks

and Angora sweaters, danced with guys

with Brylcreem-slicked hair,

who snapped their fingers

to I Only Have Eyes for You

while doo-wopping around Chevy convertibles

with fuzzy dice and Bobby loves Sharon

air brushed on both sides.

It was also the first time in forty years

since the White Sox played in the World Series,

and for eight days Chicago forgot

America was at the helm of the world

with Dwight D. Eisenhower,

that rock ‘n’ roll was just four years old,

and Chryslers and Cadillacs sported wings

for tail lights.

For one week we didn’t care

about Gidget and Little Joe, and two monkeys

hurling through space over Illinois, New York,

New Jersey, Arizona, and Pennsylvania,

and the rest of the forty-five states

when Dinah Shore launched good-night kisses

to us all under the mid-September, Soviet moon. 

“Chicago, 1959” was originally published with a different title by Lake Shore Publishing, 1995.

I was recently asked: “Can the State of Illinois declare bankruptcy so it can renege on its public pension obligations?”

Can the State of Illinois declare bankruptcy so it can renege on its public pension obligations? No, the State of Illinois cannot (no matter what Illinois Senator Mark Kirk and others have said previously).

Though the State’s liabilities continue to increase, and the State of Illinois has a cash-flow problem, bankruptcy is not an option.  Why?  Bankruptcy would destroy the State of Illinois’ credit rating completely and its ability to borrow at affordable interest rates; the State’s budgets would be slashed; bond sales would plunge, and the bond market would destabilize. Most importantly, the U.S. Constitution prohibits any state from declaring bankruptcy or “impairing the obligation of contracts” (Article 1, Sec. 10).

Two years ago congressional legislator Newt Gingrich asserted that U.S. law should be changed to allow a state to file bankruptcy, thus, giving it more leverage to renegotiate labor contracts.  In other words, Gingrich and other legislators perhaps believed that state governments could break the unions’ resolve to protect public employee pensions by using bankruptcy as their trump card; moreover, Gingrich wanted us to know that the federal government was no longer in the “bailout business.”  This is quite ironic, considering the depletion of trillions of dollars from taxpayers to bail out bankers, corporations, and the wealthy that had devastated the U.S. economy and the lives of millions of people.

Mark Kirk agreed with Gingrich and advocated for a law that would allow a state to declare bankruptcy, even though state bankruptcy would invariably rob public employees of their contractual right to an earned pension.  It is true that if a state declares bankruptcy, all fiscal contractual obligations would be placed under court jurisdiction.  State employee contracts would be under court authority and subject to its revisions, resulting in cuts not only to pension funds, but to salaries, benefits, and bondholder obligations.  Thus, pension funds could be liquidated entirely, and the State bond market would be rendered ineffectual for earning further capital. (See *footnote)

What might have prompted discussions regarding a state’s option to declare bankruptcy was a bill introduced by U.S. Representatives Paul Ryan and Devin Nunes, entitled the Public Employee Pension Transparency Act (H.R. 567) two years ago.   This bill required more reporting from state and local pensions and prohibit federal bailouts of states:  “…state or local government employee pension benefit plans are becoming a large financial burden on certain state and local governments and have already resulted in tax increases and the reduction of services.  

“In fact, a recent study published in the Journal of Economic Perspectives found that the present value of the already-promised pension liabilities of the 50 States amount to $5.17 trillion and that these pension plans are unfunded by $3.23 trillion…

“Some economists and observers have stated that the extents to which state or local government employee pension benefit plans are underfunded is obscured by governmental accounting rules and practices, particularly as they relate to the valuation of plan assets and liabilities. This results in a misstatement of the value of plan assets and an understatement of plan liabilities, a situation that poses a significant threat to the soundness of state and local budgets…  

“[Hence,] the United States shall not be liable for any obligation related to any current or future shortfall in any state or local government employee pension plan. Nothing in this Act (or any amendment made by this Act) or any other provision of law shall be construed to provide Federal Government funds to diminish or meet any current or future shortfall in, or obligation of, any state or local government employee pension plan” (H.R. 567). 

We must be aware that it’s not only a few members of Congress that have lost their lucidity.  As stated by the Center on Budget and Policy Priorities (January 2011), “various pundits [also suggest] enacting federal legislation that would allow states to declare bankruptcy, potentially enabling them to default on their bonds, pay their vendors less than they owed, and abrogate or modify union contracts.  Such a provision could do considerable damage, and the necessity for it has not been proven.”

The Center on Budget and Policy Priorities affirms that “it would be unwise to encourage states to abrogate their responsibilities by enacting a bankruptcy statute.  States have adequate tools and means to meet their obligations...  Confusion between short-term cyclical deficits and debt, pensions and retiree insurance – and the overstatement of the magnitude of the latter set of problems – draw attention away from the need to modernize state and local budget and revenue systems and address structural problems that have built up over time in these systems.  

“States suffer from ‘structural deficits’ or the failure of revenues to grow as quickly as the cost of services… Structural deficits stem largely from out-of-date tax systems, coupled with costs that rise faster than the economy in areas such as health care.  Fixing these structural problems would help states and localities balance their operating budgets without resorting to [desperate measures]… It is far more constructive to focus on fixing these basics of state and local finance than to proclaim a crisis based on exaggerations of imminent threats.”  

Consider in Lansing Michigan, “an Ingham County judge says Thursday's historic Detroit bankruptcy filing violates the Michigan Constitution and state law and must be withdrawn…” (Michigan judge rules Detroit bankruptcy unconstitutional). 

Also read: Detroit bankruptcy on hold, Snyder administration smacked down by judge for “cheating good people who work.”  

In Illinois, the State Constitution (Article XIII, Section 5) is quite explicit about public employees’ guaranteed pensions. Furthermore, “pensions will not run out of money… [That] assumes that at a future date, state pensions will just cease and all outstanding financial obligations will come due… Unlike a corporation, a state government cannot go out of business… [Accordingly,] state law empowers TRS (40 ILCS 5/16-158c)… Payment of the required state contributions and of all pensions, retirement annuities, death benefits…, all other benefits…, and all expenses are obligations of the state… The state has waved its sovereign immunity in regard to the teachers’ pension because TRS is a qualified pension plan under the tax-deferred provisions of the IRS code.  Federal law would protect all claims… Pensions [are not] the problem [or] why Illinois has been unable to pay its bills.  The reason is the dramatic fall-off in state revenues over the years, costing the state billions” (Dave Urbanek, Public Information Officer at TRS, 2011).

According to Alicia Munnell, Director of the Center for Retirement Research at Boston College, the Illinois State Constitution (Article XIII, Section 5) is the legal basis for protection of public pension rights under State laws for both past and future accruals. Two other states have this protection as well: New York and Alaska; for past and "maybe" future accruals: Arizona; for past only or protection of benefits earned to date: Hawaii, Louisiana, and Michigan (State and Local Pensions: What Now?). 

-Glen Brown

Most of this essay was originally posted in August, 2011.

For several constitutional analyses, please Click Here.

*“…[According to Eric Madiar], if the Illinois Supreme Court were confronted with a circumstance where a pension fund was on the verge of default and pension payments were diminished, then the court would most likely permit a mandamus action to proceed and resolve that action in the same manner as Jorgenson v. Blagojevich [2004]. In that case, the court held that where a constitutional or statutory provision ‘categorically commands the performance of an act, so much money as is necessary to obey the command may be disbursed without any explicit appropriation.’ The court applied this principal to compel the State Comptroller to pay judges from the State Treasury, without an appropriation, the cost of living increase that was part of their constitutionally-protected salaries under Article VI, Section 14 of the Illinois Constitution. As noted, that provision bars the diminishment of judicial salaries just as the Clause prohibits the diminishment of pension benefit rights. Accordingly, the Supreme Court would most likely grant pension participants the same relief provided in Jorgenson by compelling the Comptroller to pay the needed funds from the State General Revenue Fund, especially since the State Pension Funds Continuing Appropriation Act requires automatic appropriations be made from the Fund to the five State pension systems…”

What about the State of Illinois’ Funded Ratio for Public Pensions and Its Related Issues?

What is a funded ratio?

Funded ratios measure the portion of a retirement plan’s liabilities covered by assets.  According to the Center for Retirement Research at Boston College (CRR), “the funded ratio – plan assets divided by the actuarial accrued liability – is a snapshot of the plan’s funding status at a given moment in time.”  To look at this in another way, it would mean that a fully-funded retirement system would have enough assets to pay all benefits earned to date to all of its members, both current and retired. 

Nevertheless, many Illinois politicians (and business leaders who finance and then influence them) believe a 100-percent funding is required even though an analysis of U.S. state and local government pension obligations from Fitch Ratings (2011) stated that a 70-percent funding ratio is adequate when based on a “rolling five-year average of market value of assets.” 

One CRR report (May 2011) found that on average state and local funded ratios are approximately 77 percent. An earlier CRR report (March 2011) claimed that most retirement systems will remain sustainable until 2041, given a rate of return at eight percent and consistent, actuarial-required contributions from both state and public employees. (Illinois now has an 8-percent expected rate of return but without any guarantee for fully funding the pensions). In view of this aforementioned information, why are Illinois politicians and business leaders adamant about a 100-percent funded ratio for public pensions?  

To decrease the funding ratio would mean the State’s contribution would increase for the pension system’s plans, even though some state policymakers believe that previous pension reform, Public Act 96-0889 or Senate Bill 1946 (the Two-Tier System for new hires since 2011), will enable the State to reduce its contribution “by $71 billion” (CoGFA).  (Ironically SB 1946 passed on March 24, 2010 to prevent Illinois from being “viewed negatively by the ratings agencies and the market as a whole,” which would have resulted in lowered credit ratings and increased borrowing costs. The State of Illinois needed $100 billion to avoid undesirable ratings and projected that SB 1946 would allow the State to save $100 billion by 2045. Governor Quinn signed the bill into law on April 14^th).  

What does the “Pension Ramp” have to do with this discussion?

Public Act 88-593 (the 1995 Funding Law—“Pension Ramp”) requires the state-funded retirement systems in Illinois to attain a 90-percent funding ratio by Fiscal Year 2045, and the Commission on Government Forecasting and Accountability (CoGFA, 2011) claims that “any decrease in the 90-percent funding ratio would adversely impact both the State’s credit rating (resulting in higher costs to the State) and the State’s ultimate ability to adequately fund its pension obligations.”  (It is important to note, however, in May of 2010 only 15 states had a funded ratio over 70 percent; the average funding ratio overall was 63 percent; the highest funding rate belonged to Wisconsin at 88 percent) (Barclays Capital, 2011). We also know the so-called “Pension Ramp” is a major cause of financial instability in Illinois, one that the state’s policymakers refuse to address.

According to the Commission on Government Forecasting and Accountability, “adhering to the pension funding schedule set forth by Public Act 88-593 will continue to remain the most significant fiscal challenge for the State of Illinois… The single largest driver of the growth in the unfunded liabilities has been insufficient employer contributions…, insufficient investment returns [and inflation], benefit increases, changes in actuarial assumptions, and other miscellaneous demographic factors” such as salary growth, retiree longevity, and the length of employee service.  

What does the Entry-age Method used for determining actuarial accrued liability have to do with this discussion?

Moreover, in determining actuarial accrued liability, the majority of states use an entry-age method.  As stated by the Center for State and Local Government Excellence, “the entry-age method recognizes a larger accumulated pension obligation for active employees than the projected unit credit and generally requires larger annual contributions… Sponsors that opt for the ‘cheaper’ funding regime – namely the projected unit credit – may be less committed to funding their plans and, therefore, less likely to make the full annual-required contribution.”  Unfortunately, the State of Illinois uses the projected-unit-credit method.  

And what does asset smoothing have to do with this discussion?

Add to this the fact that Illinois has adopted asset smoothing (Senate Bill 1292 in 2011) to determine the actuarial value of its plan assets.  (The asset smoothing method uses expected returns on the asset mix and averages both past and anticipated asset values, generally over a period of five years).   Now consider the 2008-09 market collapse that significantly reduced the value of all retirement systems’ assets across the country, and one can easily see that the past five years includes profound, negative returns in the State’s assessment of its retirement systems!

Though the best solutions, according to CoGFA for the current economic situation in Illinois, are said to include lowering the assumed rate of investment return (the state has lowered it) and keeping the funding ratio at 90 percent, this Commission also maintains that unfunded plans “require contributions to pay for benefits that are currently being accrued as well as to eliminate the shortfall between assets and accrued liabilities.” 

Three final notes:  “According to the Congressional Budget Office, 80% is sufficient for public sector plans. Private sector plans require 100% because of concerns over bankruptcy or otherwise choosing to go out of business, concerns which do not pertain to the public sector. Yes, plan actuaries still set 100% as the goal because their sole concern is the pension system—they do not give a whit about the state’s responsibility to fund services, pay other debt or existing tax system, all of which matter” (Ralph M. Martire, Executive Director of Center for Tax and Budget Accountability).  

Most states today (60% of them) are funded below 59%. Illinois’ funded ratio has never been above 70%. Furthermore, according to Alicia Munnell, Director of the Center for Retirement Research at Boston College, the distribution of funded ratios for state and local pension plans in 2010 on average were the following: 12% of the state and local pension plans were funded between 35-59%; 48% were funded between 60-79%; 35% were funded between 80-99% and 5% were funded at 100+% (State and Local Pensions: What Now? 2012).

Though no state public pension has to be fully funded (ever), had TRS been fully funded by Illinois legislators throughout the decades, its funded ratio would have been between 80 and 90% today!

(Most of this essay was originally posted on this blog in July 2011).

For more about lowering that funding ratio: Click Here.