Retro-Taxes

Dear Reader,

David here, and glad to be back.

Fortunately, yesterday's bout of ill health appears to have been food poisoning – the primary suspect being a glass of milk I drank on the airplane. Like many in my general age group, I carry about in my cranium a psychological artifact that is the result of being told as a child to clean my plate because there were millions of people starving in China. Thus, when my son ordered a glass of milk and then turned his nose up at it, I pitched in to finish it off despite a subtle malodor.

In hindsight, I’m not sure poisoning myself would have helped a starving person anywhere, but there you go, and there you have it.

In any event, the trip to Argentina and the grand opening of La Estancia de Cafayate were a much welcomed break from the proverbial rat race. The only fly in the ointment was an unusual heat wave. Fortunately, because the air is dry in the high desert, the heat was easily ducked by tucking into the shade of the veranda at the beautiful new clubhouse during the hottest part of the day.

The event itself was especially fun because so many of you were there -- altogether about 270 attendants. Like our Casey Research Summits, that made it feel very much like old school week with like-minded people engaged in collegial conversation during the various cocktail receptions, and over dinners enhanced by thick steaks and fine wines. As for the development itself, La Estancia is progressing quite rapidly and, when fully built out, will undoubtedly serve as a very agreeable version of Galt’s Gulch, an amenities-rich retreat far from the madness of the crowds.

If a Tree Falls in the Woods…

One thing that always strikes me quite forcefully while in Argentina is how little I care about the news. In the U.S., I habitually check the news services -- in Argentina, by contrast, I could sincerely care less.

It reminds me of the question "If a tree falls in the woods, and no one is around to hear it, does it make a sound?” I’m sure that in my absence murder and mayhem ensued, politicians made stupid statements, and dire threats of global warming were issued. Yet, compared with taking a stroll around Cafayate’s picturesque town square hand-in-hand with my son, or enjoying a leisurely philosophical conversation over lunch, none of that means anything.

I can recall going to a couple of horror shows when younger – Nightmare on Elm Street pops to mind – and deciding that I really didn't like the genre. Why would anyone, I thought, actually want to be scared or grossed out as a form of entertainment? Yet, when you think about it, that's a pretty good description of the fare being put out 24/7 by the mainstream media.

Is it any wonder, then, that Americans, who seem to watch the news incessantly, are afraid of so many things? And are therefore so easily manipulated into rushing into the arms of a cosseting government for protection against mostly imagined threats? Recently, there was talk about closing Guantánamo and bringing the prisoners into the U.S. prison system for trial and, if convicted, incarceration. Remarkably to me, many here in the land of the brave raised loud voices of protest, expressing fear that somehow the "terrorists" might pull off a villainous act from within their prison cells.

Oh, how far we have strayed from the more mettlesome founders of this country.

But I drift, as I often do. Before moving on to matters more important, I’d like to express my warm sentiments to all those who traveled to beautiful Cafayate for the inauguration. Without exception, I’d be proud to be your neighbor and to continue our lively discussions down at the clubhouse on a regular basis.

The Story

One of the many highlights of the trip was a half-day seminar at the small but perfectly adequate Municipal Auditorium in Cafayate. The speakers included Bill Bonner of Daily Reckoning fame; Rick Rule, one of the world's most successful resource investors; Porter Stansberry, president of the firm that carries his name, and of course our own Doug Casey.

While all of the presentations were excellent, I found Bill Bonner's especially cohesive and worthwhile. His theme could be summed up as "The Story," his key point being that investors, on the whole, like a good story. And, on coming to believe that story, will act on it. Of late, Bill pointed out, the story is that the economy was in a crisis, the government stepped up to the plate with huge stimulus spending, and that, as a result, a recovery is now firmly under way.

Looking under the hood, however, a somewhat different reality emerges. Namely, that the level of government spending is both unprecedented and unsustainable. Thus, "the story" is nothing but a fiction that must come to a very bad end.

I couldn't agree more. For a sense of the thing, just glance one more time at the deficits the government itself is projecting.

Now, don’t just look at that chart – think about it.

The levels of deficit spending are not just off the map, they are off the planet. And you know as well as I, as dire as that level of spending is, it is very likely understated. That's because it fails to take into account a multitude of off-balance-sheet obligations.

And because the projections assume very low levels of inflation, which is to say no significant increase in interest rates – i.e., no significant increase in the cost to the government of carrying all its many debts.

Can a nation really buy itself a recovery by borrowing trillions upon trillions? No way. And that’s the real story.

Retro-Taxes

As I sat down to write this morning, the news came across that instead of ringing in at under 10%, as was widely expected, the nation's unemployment rang the bell at 10.2%.

While no surprise to our readers, we have steadily worsening unemployment against the backdrop of soaring deficits. It’s called “a rock and a hard place.”

The government answer to unemployment can only be more stimulus. That's really all they know. But spending like there’s no tomorrow is already raising political chop for the Democrats, evidence of which are the high-profile losses in the just concluded fill-in gubernatorial elections.

At this point, instead of slamming on the brakes, the Democrats appear to have decided on going for broke (a very apt term, if I may say so myself), in the hopes that by the mid-term elections, they will have bribed so many voting blocs that they can retain power. In the short period I was in Argentina, the number of initiatives foisted by the administration and its allies to mollify the plebs and buttress its political fortunes continued to pile up. The following is a hastily assembled, and no doubt incomplete, list…

• Extending unemployment benefits. With the latest extension, an unemployed person can get benefits for up to 99 weeks, or more than two years.
  
  
• Health care. The new bill, with a proposed (versus actual) tab of $1.05 trillion, is expected to pass the House perhaps as soon as this weekend.
  
  
• Fed pledges to keep rates low for “extended period.” Money for nothing, helping out the banks at the expense of the savers.
  
  
• Home buyer tax aid credit extended. Sure, why not?
  
  
• Fannie May implements a Deed for Lease program. Homeowners facing foreclosure can remain in their homes by signing their underwater mortgages over to Fannie Mae, and by agreeing to lease the property for a period, with a payment of no more than 31% of their income. It’s a win-win – the former homeowners get to stay in their houses, and Fannie Mae gets to own even more bad loans. What a deal!
  
  
• The FDIC allows banks to carry underwater commercial loans at pre-crash values. A commercial real estate crash would be so untidy, it mustn’t be allowed. Therefore, with a wave of its magical wand, the FDIC is allowing banks to carry loans on their books at bubble valuations, even if the underlying properties have fallen by 40% or more. Call it extend and pretend, or fraudulent accounting… the net result is the same: zombie banks that won’t lend because they know that, in time, the piper must be paid.
  
  
• Senate passes climate change legislation. Damn the torpedoes, and damn the ultimate cost to industry and consumers.
  

Unfortunately, I could go on, but won’t. I will, however, comment that when you match up the already insane levels of deficit spending with the added costs of the new initiatives – and the less obvious costs of continuing to bail out institutions that should be allowed to fail – something has to give. 

(On that last point, just today, Fannie Mae has stuck her withered hand out for another $12 billion. And the FHA, which delayed releasing its annual audit this week – not a good sign – is experiencing loan losses of upwards of 24% on the hundreds of billions of dollars worth of mortgages it provided backing for in 2007 and 2008.)

The administration knows that it can’t keep running a massive deficit without taking a big political hit come the mid-term elections next November, but likewise, they won’t cut the spending out of fear that it will result in a smoking-ruin economy ahead of those same elections.

Keeping spending, but don’t run up a deficit? Well, there’s only one way to do that – and that’s where you, dear reader, come in. 

You see, the only way to pull it off is to boost revenues. As sales and real estate-related tax revenues won’t return to pre-crash levels in our lifetimes and it would be political suicide to raise taxes on the masses, who don’t really pay taxes anyway, all that’s left is to mug the “wealthy.”

It is already understood that in 2011, all sorts of bad things are scheduled to occur for income earners. For instance, the federal tax rate will bump up from 35% to 39.6%, with an additional 5.4% surtax on gross income for high-income individuals now included in the health care bill. In addition, long-term capital gains, now at 15%, will be boosted to as much as 28%.

That latter tax is especially important right now, because investors can always be counted on to act out of self-interest. If it came to be widely believed that the capital gains tax increases would kick in prior to 2011 – say, in 2010, there would be a mad rush to sell appreciated stocks in 2009. Which is to say, between now and midnight on December 31.

One of the advantages of a little gray hair is that one can dip into the memory bank and recall certain useful snippets. For example, that back in August of 1993, President Clinton passed the largest tax increase in history – the Omnibus Budget Reconciliation Act of 1993 (OBRA) – and made it retroactive to January of that year.

Challenged in court, the court held that retroactive tax increases were legal. And this was not the first time this sort of chicanery had been pulled. I well recall how the father of a very dear friend was literally ruined after the government retroactively did away with a tax shelter and demanded he pay up, and big. He fought against the patent unfairness of the situation for a decade, wrecking his health and happiness and losing most of his money. 

(You can read more on the topic of retroactive taxes by clicking here.)

So, here’s a prediction for you. Starting early in the new year, the administration is going to begin the process of repealing the Bush tax cuts a year earlier, in 2010 and, when passed, they'll be retroactive to January 1, 2010.

While you should of course consult your own tax attorney, I personally plan on selling most of the investments I own that are now showing long-term capital gains. I suspect that many big investors in the know will be doing the same. 

Of course, if you happen to be a serf in a kingdom other than the U.S., this doesn’t affect you – unless you own U.S. stocks, which continue to be skating on very thin ice. Should investors start suspecting that 2009 may be the last time to get out while the getting is good, the ice could break.

The Dollar

As our own Bud Conrad discusses in his lead article “How Low Can the Greenback Go?” in this month’s edition of The Casey Report, the fate of the global economy is very much tied in with the fate of the dollar. As shown in the chart below, the dollar has taken a horrible thwacking (to use the technical term) this year. 

Given its precipitous decline, it would not be a surprise for the greenback to stage a rebound. In the recent past, the dollar has strengthened on bad economic news, as investors ran back into the “safe harbor” of U.S. Treasuries.

Today, however, when the very bad news on unemployment broke, the dollar initially fell (though it is mostly flat as I write). While this may just be a fluke, it’s a fluke worth watching. The dollar index (DXY) is currently at 75.62. Should it look like it will break below the psychologically important 70 level, it may be time to accelerate your preparations for the worst.

(In addition to Bud Conrad’s important article on the dollar, The Casey Report includes the specific investments you can use today to get through what’s coming tomorrow. Fortunately for those of you who are not yet subscribers, our 3-month, 100% money-back guarantee allows you to give The Casey Report a test drive with no risk. Don’t miss this edition, it’s important. And you don’t have to. Click here for more now.)

Friday Funnies

Here’s a pretty amazing video of Scottish sheep herders with far too much time on their hands…

http://link.brightcove.com/services/player/bcpid1137883380?bctid=17075685001

And a good joke you can tell in mixed company…

Too Much Information

A police officer pulls over a speeding car. The officer says, “I clocked you at 80 miles per hour, sir.” 
The driver: “Sorry, officer, I had it on cruise control at 60, perhaps your radar gun needs calibrating ?”

Not looking up from her knitting, the wife says: “Now don't be silly, dear, you know that this car doesn't have cruise control.”

As the officer writes out the ticket, the driver looks over at his wife and growls, “Can't you please keep your mouth shut for once?”

The wife smiles demurely and says, “You should be thankful your radar detector went off when it did.”

As the officer makes out the second ticket for the illegal radar detector unit, the man glowers at his wife and says through clenched teeth, “Dammit, woman, can't you keep your mouth shut?”

The officer frowns and says, “And I notice that you're not wearing your seat belt, sir. That's an automatic $75 fine.”

The driver says, “Yeah, well, you see officer, I had it on, but took it off when you pulled me over so that I could get my license out of my back pocket.”

The wife says, “Now, dear, you know very well that you didn't have your seat belt on. You never wear your seat belt.” 

As the police officer is writing out the third ticket, the driver turns to his wife and barks, “WHY DON'T YOU PLEASE SHUT UP??”

The officer looks over at the woman and asks, “Does your husband always talk to you this way, Ma'am?”

The wife smiles and says, “Only when he's been drinking.”

That’s All for Today…

And with that, I will sign off for the day and get back to a very long list of unanswered emails.

As I sign off, I see that the DJIA is actually holding steady, while gold is at $1,094 after briefly touching $1,100. At this point, I am quite sure that Bud Conrad’s forecast of gold hitting $1,150 this year, made at the end of last year, is going to come true.

As for the stock market, I’m increasingly convinced that the government and its allies on Wall Street have a plunge protection team in place. Of course, I have no hard proof, but with everything else the government is doing these days to keep the recovery story intact, I have to think something as easy as intervening in the stock market at critical pressure points would be a no-brainer.

Unless the fundamental laws of economics have been somehow repealed, however, sooner or later a pressure valve will burst and the deluge will begin.

Until Monday, thanks for reading and for being a subscriber to a Casey Research service.

(Seriously, if you aren’t already a paid subscriber to The Casey Report, don’t miss this chance to take us up on our generous three-month trial. You have less than nothing to lose. More here.)

David Galland
Managing Director
Casey Research