Iowa's Stimulus Plan - Same-Sex Marriage

In an Iowa Supreme Court ruling Varnum v. Brien on April 3, 2009, the State effectively legalized same-sex marriage in the State of Iowa. On April 27, 2009 Iowa joins the likes of Massachusetts and Connecticut and soon to be joined by Vermont as the only states in the US that allow same-sex marriages. Several states, California, Colorado, Maryland, New Hampshire, New Jersey, New Mexico, and Washington recognize civil unions between same-sex partners, each providing varying degrees of benefits to the partners. In Iowa, Massachusetts, and Connecticut, same-sex couples are offered the same rights as opposite-sex couples at both

the state and federal level.

The Economics Policy Review will not make any arguments for or against same-sex marriage based on economic impact or based on morality or religious beliefs. The article serves merely to assess the potential impact on the state of Iowa with same-sex marriages beginning later this month.

Many have regard Iowa as a recession resistant state due to the high reliance on agriculture, low consumer debt, and less dramatic real estate impact. Iowa reported an unemployment rate of 4.9% verse 8.1% for the US as a whole. Despite this, the potential impact on state budgets for major legislation cannot be ignored. The Williams Institute at UCLA provides in depth analysis of same-sex partnerships on state budgets. Following the initial district court hearing on Varnum v. Brien, the Williams Institute published The Impact on Iowa's Budget of Allowing Same-Sex Couples to Marry in April 2008. The study estimated a $5.3 million per year net benefit of same-sex marriage. The study moves step by step through the relevant categories of fiscal impact, income tax, inheritance tax, public assistance, sales from increased tourism, administrative fees, and employee benefits.

The study was published prior to Connecticut legalizing same-sex marriage on November 12, 2008. Additionally, Massachusetts does not allow out-of-state couples to wed, thus eliminating any precedent for tourism revenues. According to the 2005 American Community Survey there were 5,833 same-sex couples in Iowa; extrapolating the 2000 and 2005 data forward at a compound annual growth rate of 9.8%, there is an estimated 7,714 same-sex couples in Iowa at 2008 year-end. Using similar extrapolation, the neighboring states would have 120,728 same-sex couples to draw on for marriages and thus tourism dollars. See Chart below:


The Williams Institute assumes 50% of Iowa's same-sex partnerships and 25% of neighboring, using similar data, 34,039 couples would wed over the next three years; of which, 3,857 would be Iowa residents.

Using the fiscal impact categories above, the Williams Institute assumes inheritance tax (decrease in revenue) and income tax (increase in revenue) effective net. The assumptions seem fairly valid. The study assumes that many same-sex couples are DINKs (double income no kids), thus in a joint filing, Iowa's progressive tax structure would increase the effective tax rate on a large majority of couples, generating an additional $700 per couple. Despite a detailed discussion, it is difficult to reproduce the Williams Institute calculations. The following assumptions will be used: 50% marriage rate and a similar break-down of 85% have an increase in taxes, 5% no impact, and 10%, using 5,833 couples in 2005 and 7,714 couples in 2008E. There is a net income tax increase of $1.7mm with the 2005 population and $2.2mm using the 2007 estimated population.

The inheritance tax requires a number of difficult assumptions to forecast, average death rate, wealth of deceased, etc. The Williams Institute uses a probability distribution of wealth, charity assumptions, and gifts to children to estimate the annual impact is a decrease in revenue of $1.5mm or roughly equivalent to the $1.7mm increase in revenue.

The tourism impact could be the most substantial for Iowa relative to its peers. While Connecticut, Massachusetts, and Vermont (Fall 2008) are the only states with legalized same-sex marriages, many of their neighbors have variations that would limit the population draw; additionally, Massachusetts does not allow out of state marriages. Effectively, Vermont and Connecticut are competing for New York, Pennsylvania, Rhode Island, and Delaware marriages. New Jersey, Maine, and Maryland have a variation of civil unions. Iowa will have a virtual monopoly on same-sex marriages to its neighboring states and a population of over 120,000 couples.

The Williams Institute estimate the increased sales tax based on two groups, in-state and out-of-state. The in-state marriages assume an average opposite sex wedding costs $23,000, but same-sex couples due to lack of family support and social stigmas would spend only 25% on their weddings and out-of-state couples would spend 10%, resulting in $5,750 and $2,300 per wedding respectively. As a result, in the first three years following legalization, it can be assumed that in-state couples will spend $5.5 million and out-of-state couples will spend roughly $140 million on weddings. With the State of Iowa's 5% sales tax rate, the state would yield an additional $7.2 million in sales tax or $2.4 million per year. This neglects the benefits of increased employment or the broader multiplier implied by the increased spending. It can be reasonably concluded that the State will benefit considerably beyond the Williams Institute's roughly $2.0 million in sales tax.

The Williams Institute highlights the large area for potential impact is a reduction in state incurred expenses as a result of same-sex marriage. The Williams Institute estimates the level of assistance given to same-sex couples and likewise the savings by applying data from the lower of the 1999 Iowa Census on same-sex verse opposite-sex couples assistance levels to the estimated same-sex couple population. According to their data, same-sex couples receive $9.5 million in public assistance which would be reduced to $2.8 million when partners become eligible on their spouses benefit plans.

On balance, same-sex marriage should provide economic benefits to all current and future states considering the initiative. Iowa presents an interesting circumstance due to the virtual monopoly on same-sex marriages in the Midwestern corridor. Prior legalizations either of competition from surrounding states or do not allow out-of-state marriages. Whether the impact is $1.0 million or $100 million annually, the opponents can rest assured, they will not be paying for a lifestyle to which they are in opposition.

Quantitative Easing – Fed to buy $300 billion Govt Securities

With the target interest rate near zero, the Federal Reserve shifts its main policy tool to quantitative easing. Quantitative easing is a policy tool of central banks to inject liquidity through open market operations or outright printing of money. On March 18, often dissenting Richmond Fed President, Jeff Lacker, finally got his way, the Federal Reserve announced the purchase $300 billion long-term treasury securities. At the January 28 FOMC meeting, Lacker cast the lone dissenting vote, Lacker “preferred to expand the monetary base at this time by purchasing U.S. Treasury securities rather than through targeted credit programs.” Despite the Federal Reserves best efforts and a target rate near zero, the US monetary base was actually shrinking during the first quarter of 2009. Federal Reserve Bank of St. Louis working paper by R.G. Anderson nicely defines monetary base as follows:

The monetary base in monetary economics is defined and measured as the sum of currency in circulation outside a nation’s central bank and its Treasury, plus deposits held by deposit-taking financial institutions (hereafter referred to generically as “banks”) at the central bank. More generally, the monetary base consists of whatever government liabilities are used by the public to purchase and sell goods and services, plus those assets used by banks to settle inter-bank transactions.

The monetary base exploded starting with the stimulus package in late 2008 at a rate unparalleled in the past 50 years.


However at close examination, the monetary base has been declining of late.


A shrinking monetary base is commonly thought of as a deflationary sign, during Japan’s Lost Decade, the Bank of Japan kept its target rate near zero and allowed the monetary base growth to slow dramatically following substantial growth during the 1980s. This policy action from 1990-1993 added substantially to the destructive deflation of the decade.

Central banks typically have three policy tools, (1) adjusting the discount rate, (2) adjusting the reserve requirement, and (3) purchase securities via open market operations. Open market operations impacts the monetary base (money supply) as follows, the central purchase securities from consumers and institutions there by injection liquidity (cash in the pocket of consumers) leading to an increase in the monetary base (currency), a component of money supply. It is thought that the US is facing a liquidity trap, an economic condition when target rates are near zero (option 1 no longer available) and the central bank attempts to inject liquidity; however, financial institutions are unwilling to lend.

The Fed’s action to purchase $300 billion in long-term government securities should help mitigate the liquidity trap as well as increase the monetary base, reducing the risk of destructive deflation. Most obviously, there will be an increase in currency in circulation through the purchase of treasurys. Additionally, the purchase of long-term government securities dramatically increased the demand for out-of-favor long-term instruments, thereby flatting the yield curve and reducing the rates on credit with similar, longer-term maturities. The key is a reduction in borrowing costs for end-users, mortgages and retail credit; on cue, US mortgage rates fell to 4.85%, the lowest on record. A reduced rate will hopefully increase demand for credit, in turn prudently expanding the balance sheet of financial institutions.

The action does not come without major skepticism from economists focused on inflation, not deflation as the major concern. Interestingly, while a supporter of the policy, Lacker discussed inflation as a potential concern in his speech to business leaders in Charleston. The expansive Fed balance sheet could prove difficult to unwind when the recession end; Lacker noted that skillful central bankers will be required. While inflation, even hyper-inflation could be a concern with the central bank monetizing the debt like a developing nation, the Fed will have far more tools in the tool kit to fight inflation than deflation. The recent announcement should prove timely and coordinated with the Treasury’s initiatives to clean financial institutions balance sheets.

Stimulus 2009 – Tax Relief for Debt Repurchase

On February 17, 2009, President Obama signed into law the American Recovery and Reinvestment Tax Act of 2009. A portion of the bill allows for tax relief to companies that repurchase their own debt at a discount. The bill will provide significant benefits for private equity funds that repurchase debt on behalf of their portfolio companies. The rationale behind the bill is to incent cash strapped, highly levered companies to repurchase their debt; the reduced burden of the high debt service (interest and amortization payments) would leave the companies more nimble and less likely to layoff employees in the downturn. The tax relief is estimated to cost the Treasury $1.6B over the decade; however, it will be more costly in the near term – $42B reduction in tax receipts over the next three years.

Part IV – Rules Relating to Debt Instruments (starting on page 224), Section 1231 lays out the specifics regarding the repurchase of debt; the law firm Sidley Austin LLP provides a good summary of the new legislation as well.

‘‘(1) IN GENERAL.—At the election of the taxpayer, income from the discharge of indebtedness in connection with the reacquisition after December 31, 2008, and before January 1, 2011, of an applicable debt instrument shall be includible in gross income ratably over the 5-taxable-year period beginning (in 2014)

Current tax requires a company that repurchases its own debt at a discount to recognize income in the current year in the amount of the discount of the debt. For instance if the company issued $1.0mm of debt, but repurchased the debt for $700,000 to recognize $300,000 ($1,000,000 - $700,000) of cancellation-of-debt (COD) income -> resulting in a ~$100,000 tax bill if taxed at 34% marginal tax rate.

New tax legislation allows companies or related parties (private equity funds) that repurchase debt a discount in 2009 and 2010 to defer the COD income over a five period beginning in 2014. In the above example, the Company would recognize $60,000 ($100,000 / 5) of COD income in each tax year 2014-2018.

The legislation also allows for tax deferral if the debt is restructured via a debt-for-debt exchange, from significant modification of the existing debt instrument, or from complete debt forgiveness – which may the case for ‘debt’ provided by financial sponsors.

The legislation should provide the appropriate incentives for companies to delever and maintain a prudent capital structure. The reduced leverage and cash savings also should reduce the number of bankruptcies and out of court restructurings, hopefully reducing layoffs. Critics point out that companies with enough cash to repurchase debt are not in need of a stimulus, thus the $42B in tax relief could be more effectively placed in other areas of the economy. While these companies may have the cash today, the bill is designed to reduce the likelihood that currently solvent & liquid companies become insolvent and/or illiquid.

Obama’s Fiscal New Year’s Resolution: Don’t Repeat the New Deal Tax Hikes

President Obama is starring the greatest economic problem since FDR took office in 1933. FDR’s New Deal provided America with a few much needed institutions, including the SEC and the FDIC; however, critics of the New Deal highlight stifling tax hikes as a coagulant to the economic recovery. A few of the New Deal-esque policies (oversight, transparency, and employment stimulus) will provide a good template for the new administration; tax policy should be avoided at all cost.

The New Deal and Great Depression coincided with the rise of a new economic theory developed by John Maynard Keynes focusing on demand side stimulus. FDR simultaneously slashed unnecessary expenditures from the Government Budget, while implementing new projects to raise employment. A similar proposition has been presented by Obama, a careful examination of the each budget line item with the promotion of infrastructure projects, most notably the digitalization of medical records. The New Dealers felt a rise in spending with out a coinciding rise in tax receipts would create budget deficits that would impair the economic recovery in the medium term. FDR targeted Corporate America and America’s rich to provide the additional revenue; favoring income taxes over consumption taxes.

FDR took his pound of flesh from corporations through the Undistributed Profits Tax (UPT), essentially taxing corporations on ‘excessive’ retains. The controversial, short lived tax initiative has been widely criticized for reducing investment. Corporations were forced to dividend retained earnings or pay hefty federal taxes (upwards of 80%). The combination of higher taxes on the investment savvy rich and newly cash strapped corporations resulted in a substantial decline in investment in the laste-1930s. Capital investment will be a crucial patch to resurrect the sinking USS Economy. American industries are becoming less competitive in comparison to the low cost countries. Investment in America’s competitive industries, high tech, biotech, and pharmaceuticals can promote job development and hopefully a little labor mobility for the skilled engineers and factory workers in Detroit.

While there is no doubt American could use a little of the Japanese thriftiness, kick starting consumption is one option for short-term stimulus. The Obama administration needs develop tax neutral policies to promote investment and consumption. While it’s possible that the Bush capital gains and dividend holidays provide some incentives, these holidays should be allowed to lapse in 2010. But what to do in 2009? A few alternatives are examined.
- Depreciation and R&D tax credits – the trickle down often proves slow, but investment will increase labor productivity and eventually provide employment for the jobless Americans. Again, the US has proved competitive in biotech and high-tech industries.
- Repatriation Holiday – The American Jobs Creation Act of 2004 included a provision for multi-nationals to take an 85% deduction on repatriated income of foreign subsidiaries. This was a widely criticized move, as it may incent companies to shift jobs overseas. The repatriation would need to be a one-time plan to not have substantial negative revenue impact in the coming decade.
- Payroll tax on foreign nationals – Levy punitive payroll tax on US corporations with a labor force of greater than X% (say 10%) foreign nationals.
- Tax gaming – The US gaming industry has lobbied to be apart of the bailout, but typically when state budgets get tight, the states levy taxes on the gaming industry. A similar federal tax could be imposed on the gaming industry.
- Payroll tax on waistlines – Sedentary lifestyles and poor eating habits have contributed substantial to the healthcare burden on the US government. The US could again borrow from Japan, taxing corporations based on employee fitness.
- Restructure the AMT – The alternative minimum tax was morphed from its original intention to target a few hundred of the wealthiest Americans to more than 23 million in 2007. The AMT is hurting the struggling middle class.

The above list is by no means exhaustive, but is food for thought. The FED is generally thought to be pushing on a string; in the middle of the worst economic crisis since 1930, every sector of the US government appears to pushing on a flimsy string. Obama needs to reduce the wasteful spending proliferating the recent stimulus bill. Prudent spending with thoughtful tax incentives and revenue neutral policies will hopefully mitigate a difficult economic environment.

Obamanomics arrives: policy priorities for the new President

President Barack Obama faces a long economic "to-do" list in his first term. The first 100 days must focus on stabilizing the economy by fixing the financial sector and passing a well-crafted stimulus bill. These policies will set the tone for the longer-term reforms required to address budget deficits, regulatory reform, and waning U.S. competitiveness.

President Barack Obama faces a long economic "to-do" list in his first term. The first 100 days must focus on stabilizing the economy by fixing the financial sector and passing a well-crafted stimulus bill. These policies will set the tone for the longer-term reforms required to address budget deficits, regulatory reform, and waning U.S. competitiveness.

1. Fix the Banks
Obama must first fix the nation's banks if he hopes to fix the American economy. Wall Street is directly linked to Main Street: businesses unable to obtain credit cannot make payroll, service debts, or invest in new job creation. President Obama must recapitalize the banking sector, clearly articulating principles for when and how the government would intervene. Bailouts should be used only when market-failure could trigger a contagious downward spiral, and should be structured to prioritize limiting economic damage first, safeguarding taxpayer investments second and minimizing inefficiencies and distortions third. With this commitment to stability and Federal Reserve liquidity flooding into banks, lending and job creation will return as the economy stabilizes. Public opposition to the first bank bailout program may make President Obama hesitant to act, but failing to do so is a recipe for failure.

2. Craft a smart stimulus bill
If the President's first economic challenge is courage in the face of opposition, the second will be to seize the opportunity - and avoid the pitfalls - that his stimulus plan presents. How the $825 billion of proposed funds are spent - on tax cuts, transfer payments, local government grants, or investments - must balance boosting employment with investing in future growth prospects, while easing the burden on those most impacted by the recession. Numerous interest groups, some of which expect payback for votes delivered in November, will seek to push their constituents' interests over these national priorities. Succumbing to these interests or trying to make the recession painless is the fastest way to ensure that government inefficiency and the rejection of free markets stain Obamanomics with the mark of failure. The President proposed significant accountability to minimize these failures in implementing the policy but first must determine the optimal mix of tax cuts, transfers, grants and spending.

Taxes
Tax cuts that incentivize investments in future GDP growth deliver tremendous value. They act quickly, align the nation for the future, and prioritize free-market efficiency. Obama's earned income, college tuition, and first-time homebuyer credits for individuals and his business tax credits all meet these criteria. These should be retained and expanded. Conversely, Obama's plan to provide lump-sum tax cuts unrelated to GDP boosting investments - similar in nature to the failed 2008 rebate check strategy - is $140 billion better used to bolster government investments in infrastructure and education.

Spending
The $550 billion of spending outlined by President Obama includes transfer payments, grants to local governments, and investments. Transfer payments (largely extended unemployment insurance, food stamps, and college aid exceeding $100 billion) provide an immediate boost to growth and a cushion to those most impacted by the recession. Obama should extend these transfers, but must ensure that individuals have a clear path back to fruitful employment by creating jobs and providing education and job retraining programs.

The $200-plus billion in grants to local governments to maintain healthcare, education, and public safety service levels shield governments from recession much as transfers shield individuals. These grants advance worthy goals, but they allow government officials to avoid reducing costs or increasing efficiency as recessions normally force officials to do. Obama should only deliver grants to local governments that are willing to improve efficiency and cut costs before turning to grant money.

The remaining $200-plus billion is allocated to a laundry list of investment projects. Projects should be reprioritized using an investor's mindset, calculating the amount and timing of future benefits produced relative to the cost of the project. High return-on-investment projects should be prioritized, whether the return comes as GDP growth, better healthcare outcomes, or a cleaner environment.

Implementing this approach will require political courage, for some projects may be politically unpopular. To cite but one example, the plan devotes $650 million to subsidizing TV converter boxes, generating minimal economic benefits but politically popular amongst recipients. Those funds would be better spent boosting the measly $25 million allocated to charter schools - a move that benefits predominately inner-city students but might anger teacher unions who strongly supported Obama. President Obama must muster the courage to demand sacrifices from close supporters as well as those with different ideological views to pass the most effective stimulus bill.

3. Start planning to fix the deficit -- including entitlements
President Obama's short-term economic challenges seem formidable until confronted with the long-term problem of balancing the government's budget deficits - including the rapidly growing entitlement programs. President Obama rightfully notes that the issue has been ignored for too long. With near-record high popularity - and hopefully a track record of competence, cooperation, and fairness gained from his stimulus bill - the President has a strong position to negotiate long-term solutions for the consolidated Federal budget. While the President's chances for re-election may hinge on the success of his stimulus plan in diverting economic decline, the history books will focus on his resolution - or lack thereof - of this critical issue.

4. Get the regulation right
History is less likely to remember the President for regulatory reform, but the economy will certainly notice. The financial sector regulatory failure of the past two years exemplifies the need for reform. Institutions overseen by numerous different agencies failed, and the response from the Federal Reserve, Treasury Department, FDIC, and various smaller agencies seemed muddled at best. Instinctively, politicians called for more regulation. But it is not more regulation that is necessary but better regulation. Consolidating regulators, assigning exclusive jurisdiction, and focusing on fewer but more important rules lowers costs and increases effectiveness. The potential for dramatic (if underappreciated) impact on the economy earns regulatory reform a place on the President's to-do list.

5. Put government on business's side
That to-do list has so far focused on government bailouts, stimulus, and regulation. However, business, not government, drives long-term economic prosperity, and America's business environment has deteriorated relative to other nations. American businesses seem constrained by the government instead of supported by it. This must change; supporting business competitiveness should be an explicit government goal. The Obama Administration should enlist the private sector in developing a strategy to address American competitiveness. Whether investing in education and infrastructure, reforming regulatory, administrative, and judicial processes, or tailoring tax laws, government support of business is critical to growth. Encouraging businesses to invest and innovate is the only way to ensure long-term economic success. The new Administration must find ways to encourage private investment and innovation to sustain the recovery the stimulus will hopefully spark.


The President has noted that in crisis lies opportunity. Mr. Obama should seize the opportunity before him to not only lead a short-term recovery but enact policies that set a course for generations of American prosperity.

It doesn't get any easier than this

If politicians are looking to make sure that the economy is stimulated through infrastructure spending, the first stop should be injecting funds to the Highway Trust Fund. The Trust is funded by gasoline taxes, and since Americans are driving less and less, the Trust is running low on funds. The infrastructure projects funded by the Trust are not only vital to maintaining the nation's competitiveness in infrastructure, but also provide jobs to those construction workers.

While Congress passed a temporary patch earlier this year, the drop in gasoline consumption paired with a need for economic stimulus provides a perfect opportunity for the incoming administration to massively invest in infrastructure. Since the Trust is a well-known entity that already exists, the existing mechanisms will allow dollars to flow to projects more quickly than if stimulus is routed through new organizations.