Currency Controls Overstated for Financial Confiscation

* Currency controls ???? – some dope posted a piece on a popular website talking about how the US secretly instituted new currency controls as part of the recently passed jobs bill (called HIRE). On top of that, many other folks have posted links to this BAD and WRONG information, as if it was fact. I am not going to send you the link, but if you are a curious about such things in the world of finance, you have likely received this from some well intentioned person, or investment letter. I received at least 10 links to this.


Here is the scoop: As part of the jobs bill, there was a provision to close a loophole by which US citizens, or corporations avoid reporting income on US assets, which is paid to the off-shore accounts they own. Specifically, the law requires that foreign banks or investment firms, which hold these US owned accounts, have to disclose who the owners of these US assets are to the US government. If the foreign bank does not disclose who the US owners are of these assets are, then the US government will instruct the US based payee of interest income, dividends, etc, to withhold 30% of the payments. 


The alarmist website article equated this to mean that all overseas payments or money transfers were subject to a 30% with-holding tax. This could be further from the truth. It makes me sick that certain paid news/market services are promoting and linking this alarmist story.


Reporting of these phantom currency controls is just one more example of Chicken Little crying “The sky is falling”. By the time the sky actually is falling, the mainstream will become numb to it, and think it is just Chicken Little, or “The boy who cried wolf” up to their usual stupidity. My bottom line is this: at the time the US government has to impose currency controls because money is fleeing the US like the snakes leaving Ireland on St. Patrick’s Day, you will know the US is implementing currency controls. It will come at a time of much uncertainty and amidst dire happenings. 


Think about the environment a year ago, when the US government was putting junior union interests ahead of senior GM and Chrysler bond holders. There was great uncertainty, and the US government was suspending the normal rules of property ownership, in their attempt to solve the crisis. A year ago, the crisis revolved around the plight of the US financial system and the auto industry, which directly and indirectly was responsible for millions of US jobs. As you recall, in the heat of the crisis, the US government decided to re-organize the auto companies, giving the unions a senior stake in the newly reorganized companies, and on equal footing to the bond holders who should have retained their senior position to the subordinate union interests. Most bond holders were told to accept the government’s decision to re-arrange their legal priorities, while a few did try to challenge the reorganization in court. Ultimately, they did not have a majority of bond holders trying to assert their senior position, with enough fire power on their side to carry the day. Just over 50% of GM’s bond holders were brow-beaten to accept a bad deal for all the bond holders. 


The point here is in times of crisis, the normal rules by which investors made investments gets thrown out the window. And so it will be with currency controls. The first sign that currency controls are imminent will be the evidence that the dollar is falling in the FX markets, and gold will be selling above $2,000 an ounce, on its way to much higher levels. There will also be mainstream concern about the fiscal solvency of the US. And there will be reports about foreign flows out of the US currency and into something else. And unlike the current HIRE legislation, which does not take effect until the end of 2012, currency controls will not have any lead time before its effective date. I do believe that we will see a dollar crisis within the next 10 years, and quite possibly, much sooner, with real currency controls, not the pansy legislation just passed.


* Ambac – While on the subject of property confiscation, I thought I’d pass on another comment about the insurance commissioner of Wisconsin decision to instruct Ambac to halt payments to holders of insurance on $35 billion of insured MBS securities. While the commissioner has not issued a final ruling, he believes Ambac should have enough money to pay 25% of all claims, which are currently running at the rate of $120 billion a month, and to give these holders “surplus notes” of unknown value for the remaining 75% of their claims. What seemed odd was that Ambac would continue to make full payments on municipal bond insurance claims. I saw this in the early press releases and thought nothing of it, until a reader put this in front of me, again. And this reader has a good point: Why should municipal claims take priority over mortgage claims, since the insurance policies were issued by the same company? I agree. I thought nothing of it the first time, since I was not aware of claims being paid by Ambac on any municipal defaults. Nonetheless, the commissioner’s actions would preserve a certain amount of capital for the purposes of paying claims on municipal defaults, if and when they occur. According to my reading of the tea leaves, it is only a matter of time before the municipal claims will swamp the segregated funds available for that purpose. In the meantime, it will be interesting to see if mortgage claims holders sue the insurance commissioner to keep them on equal footing with municipal policy holders.


* Taxes on the Rich – Did you catch yesterday’s opinion piece in the WSJ by Alan Reynolds, titled “The Rich Can’t Pay for ObamaCare”. It’s a very good piece if you have the paper around from yesterday, you might want to read it. Here is my summary:


The new legislation will raise taxes on those making more than $250,000 (couples) with a 3.8% medicare tax, and also by raising the top tax rate by another 3-4% in the category of regular income. This will be in addition to an increase in the capital gains tax rate. In short, the marginal rate on the wealthy will rise by 7-10%. Most people would say, so what, if someone is making $1 million a year, then they can afford to pay those taxes. While that philosophy is fine and good, there have been many studies which shows that as tax rates go up, government revenues fall, and visa-versa. In fact, Altman cites an elasticity of taxes paid relative to tax rates. The study shows the following elasticity:


Income        Elasticity

>100k          -0.57

>350k          -0.62

>500k          -1.20


What this means, is that as tax rates go up, those with incomes over $100,000, a rise in tax rates would produce 57% less taxes than the increase in the tax rate would otherwise indicate. For those making over $500,000, revenues from them would fall, as tax rates go higher. This is because those making the most money are highly incentivized to figure out ways to shift income from sources which are taxable to ones which are not, and as the income amount rises, so do taxpayers creativity.


Reynolds concludes his piece with the following: “The federal government has embarked on an unprecedented spending spree, granting new entitlements in the guise of refundable tax credits while drawing false comfort from phantom revenue projections that will never materialize”.


For my two cents, let me add that this is all on top of $1.5 trillion deficits for the 2010 and 2011. Exactly how Obama expects to bring the deficit down to a still stupid $900 billion in 2012 is a mystery to me. In 2012, the US’s stimulus package is phased out and states have to start firing many public workers who are being kept around with revenues from the federal stimulus package. The economy is sure to collapse once the stimulus package is exhausted. Add onto that the prospects for declining federal revenues as tax rates rise, and it just doesn’t add up to a happy ending.