Taxing our Telephones

Yesterday's BNA Daily Tax Report contains a small story with a potentially broad impact. Senator Rick Santorum and other members of the Senate Finance Committee introduced legislation to repeal the 3 percent federal excise tax on certain telephone communications. (See BNADTR, June 30, 2005).

The story of the excise tax on telephone communications illustrates how hard it is to kill a tax once it gets started. This tax traces back to the time of the Spanish-American War. The world of 1898 was quite different from our own, at least in the scope of telecommunication services. (Keep in mind that Alexander Graham Bell had been granted his first patent on the telephone in 1876, and thus it was quite remarkable that the invention was out for 22 years before the government started to tax it. Bell lived until 1922, which means he got to see his invention help people as well as raise money for the Federal Treasury.) According to the website, the "Great Idea Finder" the first telephone exchange began in 1877, and the first exchange linking major cities (NY and Boston) was not in place until 1883.

I don't have the data for 1898, but you can probably guess that telephone usage had not become ubiquitous then. And it was expensive, meaning not all folks could afford it. In fact, recall the election between Truman and Dewey in 1948 -- 50 years later -- when pollsters predicted a Dewey victory (famously recorded in newspaper headlines which, to the relief of President Truman, proved inaccurate). The reason cited for those polling errors was the reliance on voters with telephone service, which in those days apparently included more Republicans than Democrats. So, during this era, one would probably conclude that richer folks (which in my experience includes Democrats and Republicans alike) were paying this tax, while others were not.

Nowadays, the economic and social structure are different. Both Republican and Democrats have phones. In fact, just about everyone I know has a cell phone - even little kids. In fact, it seems that many days I can't even walk across campus and enjoy the sights and sounds of the outdoors without having to listen to people with cellphones on their ears chatting aimlessly to their remote friends, blissfully ignorant of the friends with whom they are walking.

The excise tax, which is 3 percent of charges for local phone service plus toll service with a charge that "varies in amount with the distance and elapsed transmission time" (See I.R.C. section 4252), is thus now hitting a large group of people. I notice it when I pay my phone bill and my cell bill. (OK, I have one, too. ) And this is the reason the movers of this bill don't want to keep it -- they say it is now "regressive". It may well be regressive in relation to income, but it is roughly proportional to usage. For this reason, I don't necessarily think it is a bad thing to tax telephone communications. It does raise a lot of revenue. (The cost of repeal is estimated at 67 billion over ten years, according to the BNA article.)

However, the tax base was already crumbling. Another lesson from the telephone tax is that the market moves quickly to get around these taxes, so that the tax writers have to move quickly. As telecommunications over the Internet has become possible, this contributed to some erosion. Moreover, the type of rate plans people have for long distance may also erode the base. A recent decision in the Claims Court awarded a refund of over a million dollars to Honeywell because the particulars of its rate plan did not fall within the requirements of the statute for taxing toll charges. See Honeywell v. United States, 64 Fed. Cl. 188 (Feb. 2005).

Though there may be some symbolism in getting rid of a conspicuous tax, taxes that fall on all citizens -- thus forcing everyone to bear some costs of the government -- may well be preferable to taxes that are targeted only toward selected groups. In this case, I don't think we will kill telecommunications with a tax, though I admit that the tax causes less of it. (See our previous discussion on taxing cosmetic surgery.)

If only we could tax the cell phone users who walk and talk, or worse, who talk and drive. Then I think we would be on to something we could all support. I could do with less of that.

Edward A. Morse

Takings Development

Here is a development that will delight all critics of the SCT decision in Kelo. A developer in Weare, NH, home of Justice David Souter (who was in the majority) has filed his intention to seek eminent domain proceedings against Justice Souter's home. The new property will be developed into a hotel ("The Lost Liberty Hotel") with a restaurant ("The Just Desserts Cafe").

The press release is found here. http://www.freestarmedia.com/hotellostliberty2.html
Kudos to the Drudge Report for bringing this story to light. And of course, kudos to the folks with the good humor to put this out.

EAM

The Bizarre World of NYC Real Estate Laws

I read a story this morning on the New York Times website about the wacky world of "rent stabilized" apartments in New York City. The article, "Everybody Out" (published 6/26/05), chronicles the struggle of an owner of a building to take over the entire property to turn it into a 60 room residence for his family. And no, his family is not large, it is himself, his wife, and their infant son. (Maybe he is a large infant. Or maybe he is just loud.)

I personally have no squabble with how much space he thinks he needs for his family. If he can afford 60 rooms, it's his choice. But it is highly unlikely that this decision is driven by a desire for family space. The bizarre system created for rent-stabilized property may leave him no other practical choice if he wishes to extricate himself from tenants with below-market rents. Taking over the property for one's own family may be the only effective way, or at least a less expensive option than providing economic inducements for tenants to leave. By living in it for three years, he could apparently then be free of rent restrictions.

This system is expensive and wasteful. Rather than creating incentives for more housing, it effectively creates an incentive for less. For a Midwesterner like me, this system seems a lot more outrageous than any kind of taking under a government economic development plan. At least when eminent domain powers are exercised, you get compensated for the taking.

EAM

More on Takings

Conservative pals have been weighing in vigorously on the dissenting side of Kelo. Here are a few additional thoughts.

I agree that property rights are very important to liberty. Our legal traditions are built upon the ideal that citizens are secure within their homes, even from the intrusions of the king himself. However, we have come a long way from that ancient tradition when it comes to economic development. Community interests have long been given significant weight in balancing against the individual interest in particular property.

The public use concept did provide a firmer constraint on the exercise of eminent domain powers. Though I would vigorously object to an effort to build a stadium for a professional sports team, if the elected officials in my jurisdiction were so disposed, this might qualify under the public use category. However, in doing so, they must understand that their taking of property would ultimately benefit the primarily upper income folks who can afford to patronize professional sports teams.

A public purpose concept, as adopted by the majority, does expand government power in the sense that putative economic development interests -- which may be diffused somewhat unevenly throughout the population -- could justify takings in circumstances where the end use is less public than a stadium. However, a redeveloped business park or retail district has the potential for benefits that could well be greater than those of a stadium. The real question of which benefits the public more is one which is ultimately best left to the political branches to decide.

If we are concerned about the political branches abusing their power, and if we believe that electoral responsiveness is an insufficient brake on that power, then perhaps the solution lies not in a constitutional principle that is ultimately subject to the policy judgments of the courts. What really bothers people about eminent domain is the possibility that the state will take property and undercompensate the owner based on a fair market value that does not take into account features of the property that are valueable to the owner. For example, the plaintiff in Kelo who had been born in the house, and who had lived with her husband for 60 years presents a sympathetic case. Her interest in being in the family homestead seems worthy of being valued, over and above whatever market value is on her home.

Here is my modest proposal: let us agree that if the state exercises eminent domain powers, it must pay a premium to do it. Rather than FMV, let us put the value of private property taken by the state at a multiple to FMV. This could be accomplished by the states, and it would provide real protections for property owners, without creating barriers to economic progress. It would compensate citizens for the requirement to sell one's property, instead of doing so volunitarily. It would also create a more effective source for electoral resistance to ill advised economic development efforts by government. If the public is not outraged by politicians using eminent domain powers for dubious purposes -- such as taking over a functional neighborhood based on the hope of making something better -- perhaps the outrage will grow if the taxpayers paid double for it.

Of course, this could raise other problems. Now, instead of using eminent domain to buy out one's political enemies, you might use it to buy out your friends instead. Structural protections don't insure against corruption, but we can at least expose it to the light of day.

Edward A. Morse

Protecting U.S. Jobs

IBM just announced that it would be reducing its workforce in the U.S. and “Old Europe.” Just as it reduces its employment levels in the high labor costs countries, IBM intends to expand the number of workers in India. For each engineering job reduced in the U.S. (and Western Europe), and added in India, IBM increases it bottom line by roughly $60,000.

Don’t blame IBM for seeking to cut costs and maximize shareholder return. Instead of attempting to save jobs via trade restrictions, the U.S. must attack the source of job losses---an education system that does not produce workers that can compete. Science and engineering education in the U.S. is dominated by foreigners. In economics it is much the same. A student of mine here at Creighton recently entered the Ph.D. program in economics at Columbia University. She was one of only 5 U.S. students among the 25 students that entered the program with her. It is not uncommon to see 20 percent or less of graduate (and undergraduate) students in engineering/scientific/mathematics fields coming from the U.S. American students tend to favor “soft” fields such as marketing, art history, and psychology. I recently gave an exam that contained a fair share of challenging mathematical problems. One of my students asked, “What does this have to do with leadership.” While U.S. students are being educated for leadership, foreign students are preparing themselves by taking more demanding courses in science, mathematics and engineering.

As a result of the failure of the U.S. to produce well-educated workers, companies across the globe are looking to nations other than the U.S. to fill their technical labor requirements. Critics have charged that the U.S. government must take action to prevent companies such as IBM from off-shoring jobs. However, this is the wrong approach. Globalization will continue to increase the level of job off-shoring as long as U.S. workers are ill-educated. Blue-collar workers have long faced this challenge. Now we white-collar workers are feeling the pressure and are beginning to squeal for protection. Producing well-educated workers in demanding technical fields will provide the only “real” protection for the American economy.

Ernie Goss

Supreme Court Watch: Can the Government Take Your Home?

Today the Supreme Court announced its decision in Kelo v. City of New London, Connecticut, 2005 WL 1469529. This case involved a challenge to an eminent domain action by a city against the owners of homes and other investment properties located in an area slated for economic development. The property owners, including a woman who lived in the home in which she was born, and in which she had lived with her husband for more than 60 years, sought to restrain the city from taking their property for the purpose of implementing a redevelopment plan.

Their properties were apparently well-maintained, and by no means constituted a run-down public nuisance or “blighted” area. However, the city in which they were located had experienced some tough economic times. Pfizer had just located a research facility there, and the city leaders hoped that by revitalizing the adjoining area, they could get something good going to attract more business and investment to the community. They formed a public corporation devoted to economic redevelopment and began purchasing properties. When the plaintiffs held out, eminent domain proceedings were brought and the plaintiffs lost their property rights. Of course, they were paid FMV for them, but presumably that did not take into account the particular sentimental values of a homestead, such as the woman mentioned above.

Eminent domain proceedings are useful and serve as a limitation on private property rights when the public good is adversely affected. Traditional uses for the power include building railroads, highways, or other places that benefit the public good. After all, if one guy could stop the highway, public costs would escalate and we would have crooked roads everywhere. However, this case put the question of what constitutes a public purpose. A majority of the court found that economic development in these circumstances was sufficiently related to the public, even though it was not for a planned public space or facility. The dissent, led by Justice O’Connor, thought this approach created a slippery slope, which could well lead to abusive encroachments on private property rights by the power-hungry political branches.

The case puts the liberal and conservative justices on each side of this dispute at odds, to some degree, with their usual positions. The conservatives in dissent focused heavily on the importance of private property and the need to protect that right from encroachments by the government. Precedent clearly supports the proposition that government cannot play favorites with regard to property: it cannot take A’s property and give it to B. They are right to be concerned, as enemies of the political establishment holding minority positions might well lose their property. (E.g., Could Chuck Heston be able to withstand a political decision that his beach house would serve the public good more effectively if it were owned by a an anti-gun lobbyist?)

The liberals, on the other hand, recognize this point, but find that the putative purposes of economic development found by the government should be respected as an adequate public purpose. After all, who are they, as judges, to second guess the determinations of the politically accountable branches on these matters?

This kind of thinking may sound strange coming from these particular judges, whom we usually expect to intervene to declare legislation invalid instead of deferring to legislative judgments.


I don’t happen to think the sky is falling in this area – at least not yet. The context of this case does seem to provide some limits, which would allow one to distinguish a case where a taking from one party to give to another private party would still be precluded. However, it does give much more discretion to government in such matters. There may well be cases where the political process does not provide an adequate check on public power. But in such cases, there is still the requirement of adequate compensation. Though that may not protect the family homestead, it does presumably allow a comparable property to be acquired and life to go on.

Edward A. Morse

Taxing Breasts: Follow-up

I read with interest my colleague Dr. Goss' post on taxing medical procedures. It reminds me of the saying that you should tax what you want less of. Query whether the economic community will undertake empirical research to confirm this result in New Jersey.

EAM

Taxing Breasts

Don’t get breast implants in New Jersey. In 2004, New Jersey passed the first of what are often termed ‘vanity’ taxes or taxes on plastic surgery. Motivated by a desire to cash in on what legislators view as a luxury, New Jersey now levies a tax of 6 percent on medical procedures including nose jobs, hair transplants, chemical peels, liposuction and breast implants. The state exempts all procedures that are deemed medically necessary.

I see three serious problems with such action. First, what is deemed necessary by one person is a luxury for another. What about braces for your child’s teeth? Most well-to-do parents view braces as a necessity. However there are certainly parents across the nation, and even in New Jersey, that do not consider braces for the teeth as vital.

Second by taxing cosmetic surgery, New Jersey will simply drive a share of this activity to another state. For example surgeons charge patients between $10,000 and $20,000 for a hair transplant. Thus a balding man would save between $600 and $1,200 by driving across the border to New York or Pennsylvania to obtain those lovely locks. There is of course the likelihood that by passing such a tax, tax collections could actually decline. That is, at least a percentage of physicians in the state, sensitive to such taxes, will decide to move their practices across the border. Thus instead of collecting a tax on that “nose job,” New Jersey losses income taxes normally collected from the newly migratory physicians.

Finally, expansions in taxes such as this allow the state to continue on its overspending ways assuming that physicians do not re-locate. Thankfully, states have to compete. Unfortunately, New Jersey is becoming less competitive due to legislation such as this.

Ernie Goss

More Budget Facts: Fed vs. State & Local

I was curious as to how much tax revenue is being collected at the federal level vs. the state and local government level. The following table shows these amounts, which are drawn from CBO (Federal) or Census Bureau (State and Local) websites. As you can see, looking a the trends since 2000, state and local tax collections have grown (15.7 percent increase), while federal collections have fallen slightly (7.2 percent decline). The percentage of taxes paid to the federal government seems to be falling, while state and local coffers have been increasing. This could be a healthy trend, to the extent that it reflects a greater level of local control over matters of taxation and finance. However, this deserves more investigation. Are state and local taxes simply rising? Is that because we're getting more services? Or is it because state and local government are taking over federal functions? It should be noted that the revenue figures here at the state and local level include only taxes, not intergovernmental revenues.


FY Federal S&L Total % Fed %S&L S&L/Fed
2000 2,025.20 872.35 2,897.55 69.89% 30.11% 43.07%
2001 1,991.20 914.12 2,905.32 68.54% 31.46% 45.91%
2002 1,853.20 904.97 2,758.17 67.19% 32.81% 48.83%
2003 1,782.30 938.97 2,721.27 65.50% 34.50% 52.68%
2004 1,880.10 1,009.26 2,889.36 65.07% 34.93% 53.68%


EAM

Competition and the Auto Industry

In a previous posting, I noted the intriguing observations of Michael Barone in his book, Hard and Soft America, regarding the importance of competition and accountability (“Hard” concepts) to overall progress. An interesting piece by Gregg Easterbrook in Sunday’s New York Times, entitled “What’s Bad for GM is …” (see http://www.nytimes.com/2005/06/12/weekinreview/12gregg.html?ex=1119240000&en=ecb31b994c3d753a&ei=5070&emc=eta1) provides some examples of competition and accountability in the U.S. automobile industry.

Easterbrook outlines the struggles of General Motors over the past several years in meeting competitive demands here and abroad. General Motors, which in the 1950s provided over 46 percent of the vehicles sold in the U.S., now provides about 27 percent. Its chief rivals, Ford and Chrysler (now Daimler Chrysler), did not fare much better, slipping from a combined share of 44 percent in the 1950s to 32 percent now. Other automakers have grown from a market share of 10 percent to 41 percent.

The good folks who worked in assembly plants closed as a result of these shifts have often had a difficult time. Easterbrook points out that job losses in these U.S. companies have been offset, at least in part, by new plants and investments in the United States by other companies. (This would be an interesting area for further inquiry.) In the meantime, consumers have benefited from higher quality cars at inflation-adjusted prices that are actually at or below the levels of the early 1980s.

If it has been a while since you shopped for a new car (as in my case), there does seem to be an initial sticker shock that is hard to get over. However, when you think about it, the cost of a car in relation to the growth of personal income is not out of line. To illustrate, between 1980 and 2004, per capita personal income in Nebraska increased from $8895 to $31,339 – about 3.5 times more in 2004 than in 1980. (To see your state, check here: http://www.infoplease.com/ipa/A0104652.html


Assuming a new car price of $20,000 (OK, I’ll admit I’m not a fancy car guy), that translates to a corresponding 1980 price of about $5676, which is probably not too far out of line with what we paid then. But when we consider, as Easterbrook also points out, that the modern car now has more safety features, a better radio, antilock brakes, and all that jazz, it starts to sound like the consumer got a pretty good deal out of this competition. (It is too bad, though, that the automobile industry wasn’t able to match the computer industry in terms of productivity!)

EAM

Russia Gets Tough with Ukraine

In the last two to three days Russia has been turning up the heat on Ukraine. This appears to be an attempt to reign in Ukraine following that country’s Orange Revolution, which resulted in the election of President Viktor Yuschenko. Yuschenko was openly opposed by the Kremlin who saw in him someone who might potentially threaten previous privatization deals. Many of these deals placed Ukrainian wealth in the hands of Russian businessmen or those with close connections with Russian business interests. Concerns have been voiced throughout post-communist Europe, and in particular the region of the former Soviet Union, that Moscow is using Russian business ownership of major enterprises as a means to influence the domestic and foreign policy of neighboring countries.

Since Yuschenko’s election, Ukraine’s government has actively pursued undoing the results of previous sales of state enterprises. Thus far twenty-two such privatization deals have been placed in abeyance. In response, Russia's National Reserve Bank announced this week that it is suspending investment in Ukraine owing to concerns over the investment climate related to past privatization deals. The day before, Russia’s state-owned natural gas monopoly, Gazprom, demanded $1.25 billion compensation for 7.8 billion cubic meters of gas stored in Ukraine that allegedly disappeared during the Orange Revolution. Gazprom also announced that it was seeking to increase the price of gas sold to Ukraine from $50 per 1,000 cubic meters to $160 next year.

Budget Facts

Yesterday the CBO issued the latest data about federal budget progress for FY 2005. Tax receipts continue to outpace last year’s receipts through May by more than 15 percent. Corporate tax collections were up the most at 47.5 percent. (Before you start writing your Congressperson for more pork in your district, you should realize that corporate taxes provide only about a tenth of the total tax revenues. Nevertheless, this is probably a good sign that corporate profits were made, and that such profits were of a sufficiently real variety to generate a tax obligation.) Individual tax collections were up 20 percent, and social security collections were up 6.4 percent.

On the outlay side, the figures through May 2005 were up 7.5 percent above that of the prior year. With taxes up by more than spending, we are moving in the right direction. However, we are a long ways from balancing spending and receipts. The CBO still predicts a budget deficit in the $350 billion plus range.

See Monthly Budget Review (June 6, 2005) at http://www.cbo.gov/showdoc.cfm?index=6407&sequence=0

When one looks at the aggregate spending, it appears to have grown substantially during the Bush administration. Fiscal 2005 expected spending is $2,422 billion, which is about 30 percent higher than the 2001 figure of $1,863 billion. Although the Iraq war and other elements of the war on terrorism undoubtedly increased defense expenditures ($300 billion in 2001 vs. 454 billion in 2004 - I don't have the 2005 figure), this does not explain all the difference. This $154 billion difference (2004-2001) appears to be less than 1/3 of the total increase in spending during the period. We thus bought lots of other things with all of that government money. (Oops, I mean our money.)

Tax receipts, on the other hand, have grown from $1,991 billion in 2001 to $2,057 in 2005, an increase of about 3 percent. However, this occurred despite significant tax rate cuts enacted in 2001. (Cutting tax rates to generate more revenues -- hmm -- perhaps we need more of this?)

In comparison to the total economy (measured by GDP), these staggering numbers don’t seem so large. Using 2004 data (the most recent available), the tax receipts as a percentage of GDP are at 16.3 percent, a decline from the 19.8 percent levels of 2001. No lower percentage appears since 1962 (the earliest year on the table I’m referring to, located here: http://www.cbo.gov/showdoc.cfm?index=1821&sequence=0#table1 ). That suggests government is really taking a smaller bite out of the economy in the form of taxes.

On the spending side, however, the 2001 outlays were 18.5 percent of GDP, which increased to 19.8 percent by 2004. This means that government spending is growing in relation to the economy, though it has a ways to go to reach the lower twenties, which we saw as recently as the early part of the 1990s. The highest percentage since 1962 occurred in 1983, at 23.5 percent. Assuming estimated 2005 GDP of $12,396 billion (per the CBO estimate, see http://www.cbo.gov/showdoc.cfm?index=1824&sequence=0 ), spending would have to be reduced to 16.6 percent of GDP to balance the budget.

EAM

Russia: A Eurasian Strategy or Seeking to Be a Strategic Partner?

In the immediate aftermath of 9-11, Russia was the first country to pledge its support to the US war on terror. Subsequently however the country joined France and Germany in opposing the US invasion of Iraq. While it is clear that Russia’s number one foreign policy goal is to regain a position as a major power in the international system, as these examples attest, it has not been altogether certain just what strategy the Kremlin is following in pursuit of that goal. Is Russia working with the European Union to forge a counter-pole to balance US hegemony, the so-called Eurasian strategy, or is it attempting to enhance its position in the international system by positioning itself as a US strategic partner?

Given the lack of consistency in Russian foreign policy, many analysts have resorted to analyzing the pros and cons of each approach from the Russian perspective. Those who argue that Russia is following a Eurasian policy contend that Europe’s dependence on Russian energy supplies supports such an approach. However, Europe’s continued concerns about Russian excesses in Chechnya as well as its generally more violent approach to solving terrorism (similar to that of the Americans) complicates its relationship with Europe. Indeed, Washington has not only been more forgiving of Russia’s internal counter-terrorism efforts, it has been also less concerned that Europe about the lack of Russian progress toward democracy.

US Ambassador to the Russian Federation, Alexander Vershbow, recently addressed this question in a forum at Creighton University in Omaha, Nebraska. In his view, Putin has jettisoned the Eurasian option in favor of pursuing strategic partnership with the United States. Not only do the two countries share interests on a broad range of issues, to include the struggle against terrorism and global oil policy, but Putin has come to realize in the wake of Ukraine that the Eurasian policy ultimately rests on the ability of Russia to drive a wedge between Europe and the US and Europe’s willingness to permit Russia to do so. The western reaction to events in Ukraine following the fraudulent presidential elections in fall of 2004 have convinced Russia’s president that it will be difficult at best to drive a wedge between the US and Europe. Hence, the country’s only recourse is to pursue a concordant with the US.

Social Security and Women

In considering Social Security reform, House Ways and Means Committee Chairman Thomas has expressed the desire to look at other aspects of the system besides its solvency. One interesting problem involves the treatment of stay-at-home mothers, an issue highlighted in a story in Thursday’s BNA Daily Tax Report.

Stay-at-home mothers, who leave the workforce to take care of their children, potentially get shortchanged in the calculation of social security benefits. For the years in which women are outside the paid workforce, they pay no social security taxes and thus make no contribution to the system. This doesn’t hurt women who stay married, as they are eligible for benefits based on the income of their working spouse. But others may receive lower benefits as a result of their choice.

This presents a conundrum of sorts for those who value the contribution of the homemaker. On one hand, giving no benefits for that seems to undervalue this contribution. (Yes, guys, celebrating Mother’s Day once a year is not going to be enough.) On the other hand, how does one measure the value? Even if we could, how should we expect to fund these benefits?

Markets set the value of most things, and they generally do so effectively. I’ve seen studies that seek to value the contribution of mothers based on the equivalent cost of professional services, and these values are high. However, as much as one might like to reward this contribution, doing it through the social security system is problematic. If we set some amount, what would that say to women who chose to work (or had to work) and earned less than this amount?

It should be noted, however, that women enjoy a demographic benefit that is not shared by those of us with a Y chromosome. They live longer, and thus stand to collect more from the system. As of 2002, a 65 year old male can expect to live 16.6 years, whereas a female could expect to live 19.5 years. (See the tables at http://www.cdc.gov/nchs/data/nvsr/nvsr53/nvsr53_06.pdf . These tables raise other issues, too, including the differences in life expectancy based on race. The absence of private accounts may well hurt some groups more than others, to the extent they are more likely to leave their contributions in the system for the benefit of other groups. But that is another topic.)

Of course, this means that the group who may be worse off than the stay-at-home mothers are the stay-at-home dads. Not only does their work get undervalued, but their kids apparently drive them to an early grave. Ouch!

Private accounts might provide some way out of the conundrum, as they might provide a means of accounting for benefits based on the earnings of the working spouse in a way that protects the interest of the nonworking spouse. (Thus, a portion of the benefits from the working spouse would get transferred to the nonworking spouse's account, without changing the total contribution.) However, no one is advocating that private accounts become the sole basis for these benefits. Assigning work credits based on half the working spouse’s income would also be possible, but that could complicate the existing system’s benefit structure. This might protect those who don't stay married. This conundrum will not be easily solved.
EAM

Zealous Prosecution and its Aftermath: Arthur Andersen's Travails

On Tuesday, the Supreme Court handed down a decision reversing the conviction of the accounting firm Arthur Andersen for violating a federal obstruction of justice statute in connection with the destruction of documents in connection with its work with Enron. (The opinion is styled Arthur Andersen LLP v. United States, (May 31, 2005)).

In the aftermath of the financial meltdown of the Enron empire, federal prosecutors looked for someone to blame. In addition to focusing on individuals, they took on the entire firm. Their thinking on this is somewhat mystifying to me. True, the firm had been involved in other investigations of financial restatements. Sunbeam and Waste Management were both Arthur Andersen clients. But this was a large enterprise, employing thousands of people. A criminal conviction for the firm would spell its demise, as opposed to punishing those who were directly responsible for the wrongdoing. Putting thousands of people out of work does not seem like a good result in a case like this, but that is what happened.

The core issue here was the interpretation of what the following statutory language:

“Whoever knowingly uses intimidation or physical force, threatens, or corruptly persuades another person, or attempts to do so, or engages in misleading conduct toward another person, with intent to ... cause or induce any person to ... withhold testimony, or withhold a record, document, or other object, from an official proceeding [or] alter, destroy, mutilate, or conceal an object with intent to impair the object's integrity or availability for use in an official proceeding ... shall be fined under this title or imprisoned not more than ten years, or both."

It was quite clear that a firm partner urged or directed Enron employees to destroy documents, but this urging was at least nominally consistent with following the company’s document retention policy. No "official proceeedings" were then pending, which might invoke the need to preserve these documents. Thus, in this context, it was not clear whether the persuasion was “knowingly … corrupt[]”.

This may sound hypertechnical, particularly if you assume that they knew an investigation would ultimately come. However, on the face of it, following a document retention policy is not bad in itself. It is actually a good thing to do, especially if you have lots of paper sitting around. Like Jay Leno, who has on occasion claimed for purposes of comedy that he tapes his entire life to ensure against legal liability, some people or firms are packrats. That might mean they collect information that makes it easier to prove wrongdoing. Or maybe it disproves wrongdoing (as Mr. Leno hopes). But there is no basic requirement to keep that kind of information around. We don't have to make the government's case for them by collecting information on ourselves, and if we do wrong, then keep it for a time when the government wants it to punish us. Of course, that all changes if we know that an official action is going on that might make a document relevant. But when do we know that? Is merely the hypothetical possibilty enough? I think not. And apparently the Court sees it that way, too.

The Supreme Court held that the Government was required to prove the actor know that they were urging others to do something that was wrong. To the contrary, the jury was told "even if [petitioner] honestly and sincerely believed that its conduct was lawful, you may find [petitioner] guilty." This cuts out the heart of the traditional mens rea requirement otherwise needed to impose a criminal punishment in connection with an act that is, on the surface, perfectly moral and appropriate. Following a document retention policy may well be an appropriate reason to destroy a document, and the question is whether there is something “knowingly … corrupt” in asking someone to follow that policy. It may be if you know it will obstruct a legal proceeding, but that is something the Government should have to prove.

It is interesting to note that the Washington Legal Foundation and the U.S. Chamber of Commerce weighed in on the side of the firm on this battle. Among other things, they argued that a ruling imposing liability without proof of mens rea ends up adding costs to every business, as document storage costs mount. Their brief states in part:

“Companies and employees will be consumed by inefficient caution. If an official investigation even approaches the horizon, it will become impossible as a practical matter for a company to advise its employees to comply with its efficient and legal document retention policy for fear of running afoul of the law. In a company with thousands of employees which generates reams of paper, such an approach is onerous. For a small business, where space limitations, storage costs, and legal advice are relatively more burdensome, such a rule is even more oppressive. If Congress wants to impose those burdens and to criminalize failure to act in accordance with a federal rule of *18 document retention, then it should do so expressly and unambiguously. Absent that, prosecutors should not be invested with a roving commission to stretch criminal law to fit conduct not clearly prohibited. “

This group also noted:

“Andersen was eviscerated, because an incorrect and overbroad legal standard was applied. It may be too late to undo the damage to Andersen and its employees, but it is clearly not too late to prevent this mistake from being repeated.”

So, Andersen partners can at least sigh and say “I told you so.” That is cold comfort, indeed. But in this case, I think the Court got it right. This case is a reminder, however, of the power of government prosecutors. Errors, if made, can affect lots of people adversely, and those effects are difficult to reverse.
EAM

Economic Expansion to Continue

Each month we survey over 800 firms in nine states to obtain a gauge on the regional economy which includes Arkansas, Iowa, Kansas, Minnesota, Missouri, Nebraska, North Dakota, Oklahoma and South Daktoa. The overall index from the survey of supply managers (purchasing managers) is a leading economic indicator with an index above 50 pointing to economic growth in the next 3 to 6 months. The index from the May survey was 60.7 or significantly above growth neutral 50.0.

Moderating prices for steel and oil, along with cheap prices for imported goods, pushed the prices-paid index down to its lowest level since November 2003 with a May reading of 65.8, down from April’s 75.4. The prices-paid index tracks inflation at the wholesale level and has now declined for five straight months

Strong readings for the overall index combined with waning inflationary pressures signal that the regional economy is entering a zone often termed the ‘Goldilocks” economy-not too hot, but not to cool. Because of this I expect the fed to be less aggressive on rate hikes in the coming months. Despite this, and contrary to my April assessment, I place the likelihood of a rate hike at their June29/30 meetings at something over 80 percent.

Despite very positive reports from supply managers, the regional confidence index declined for the fifth consecutive month to 58.6, its lowest level since October 2002 and down from April’s 59.4. It’s difficult to determine the source of this decline, but it is clear that the hardening of trading positions among China, Europe and the U.S. is contributing to a less positive economic outlook six to nine months out. If the trading partners convert their current hard-hitting rhetoric to trade restrictions, I expect the Fed to remain biased to rate hikes to protect against higher inflation that would accompany trade limits.

Ernie Goss