Big Pharma

1993 was a good year for the American consumer. We thought we were OK. The drug industry spent only $104M in direct-to-consumer advertising for prescription medicines. By 1996, spending had increased to $585M. In Aug. 1997, the FDA relaxed advertising restrictions and we ain’t been healthy since. By 2007, drug advertising to consumers had climbed to $4.4B as the American public became sicker and sicker and the pharmaceutical industry showered us with solutions.

Men could take a pill and find their inner stallion. Another pill would help them go to the bathroom less frequently while golfing or boating or just driving around with their buddies.

Depression and monthly mood swings, cramps and bloating, sleeping problems, heartburn, high blood pressure, cholestorol and diabetes – we were encouraged to talk to our doctors.

“In the U.S., ads aimed at consumers typically account for only about 40% fo the total marketing budget for prescription drugs” a 4/16/09 WSJ article noted. “The majority of manufacturers’ promotional efforts are directed at doctors.” Those poor doctors. “Pharmaceuticals had become one of the largest ad-spending categories, ahead of ..the insurance industry, beverage companies and film studios.” Good for magazines and TV stations, bad for us.

Last year, print advertising for pharmaceuticals fell 18% while TV ads fell 4%. Given the economy, that’s understandable. So what about prices? In a 4/15/09 WSJ article, Barbara Martinez and Avery Johnson report that “prices of a dozen top-selling drugs increased by double digits in the first quarter [of 2009] from a year earlier.” Viagra is up over 20%, Cialis up 14%, an attention deficit disorder drug up 15%.

A pharmaceutical industry analyst said that drug companies are raising prices to use the higher prices as a starting point in future discussions with the government about discounted prices. Coming patent expirations on many drugs are also a factor as drug companies try to get what they can while they have exclusive rights on the drugs.

American Sisyphus

Push rock up hill. Rock rolls back. Keep pushing rock.

In the 4/16/09 WSJ “Currents” column, Gary Fields notes that data shows that “over the last 10 years, education costs have risen 5.91% annually, and health-care expenses have gone up 4.16% annually, while wages and income have risen only 3.7%.” The CPI has risen 2.4% annually during that period.

This is the big rock of assets that Americans have been pushing up the hill. That rock really rolled back last year. The Federal Reserve “found that U.S. households’ net worth dropped by $11T, a decline of nearly 18%, during 2008. The decline equaled the combined output of Germany, Japan and the U.K.”

Tired Taxpayers

On 4/10/09, I blogged about recommendations for tax reform from Nina Olson, an IRS advocate. On 4/20/09, a CPA wrote a letter to the editor in which he suggested that “each senator and representative [should] prepare his or her federal income tax return personally and .. the IRS [should] audit 100% of those returns each year.”

We must have some reform. Alternatives include 1) a tax on spending, or VAT; 2) a flat tax on income; 3) a tax on savings through fees charged on all stock and bond trades.

Here is a review of flat tax proposals. Here is a proposal for an optional flat tax by Kansas senator Sam Brownback.

A fair tax is a modified VAT tax (value added tax as it is called in Europe) with no tax for those below a certain income level. The home page is here, and a page explaining the rates are here.

We all agree that the current system is broken. Where we disagree is the solution. Perhaps the best thing would be to put a version of the three alternatives and the current system on a ballot for this November and have all of us vote on it. Lawmakers have been disagreeing on reform since the last tax reform of 1986 and it is doubtful that they could ever agree on a radical change to the code.

The disadvantage of the current system is that it invites Congress to “tweak” the code to reach certain admirable goals, but this constant tweaking is confusing and treats taxpayers like we are donkeys responding to carrots dangled in front of our eyes.

Tell your Congressperson that you don’t want to treated like an ass anymore.

Fannie Mae Bonuses

In a 4/5/09 WSJ article, James Hagerty notes that Fannie Mae and Freddie Mac, the two formerly quasi-government mortgage giants that were effectively nationalized last fall, “expect to pay about $210M in retention bonuses to 7600 employees over 18 months.” The maximum bonus that will be paid is $1.5 million. $51M were already paid in 2008 and the remainder are due to be paid this year and next.

Of the 7600 employees receiving bonuses, 4057 are employed by Freddie Mac and constitute a whopping 80% of all the employees at that company. Fannie Mae is rewarding 61% of their employees, 3545 in total, or 61% of their total work force.

The regulator, James Lockhart, is responsible for initiating the retention bonus program. “It is not realistic,” he wrote, “to expect that experienced and highly skilled employees will indefinitely continue to work as hard as they have if we do not provide reasonable incentives to work.” As thousands of people in the financial industry line up at the employment office, why isn’t a paycheck enough “incentive” for most of these workers?

Since Congress has squashed or eliminated many bonuses for those banks receiving bailouts, it is mandatory that Congress follow the same principle with these institutions which have received far more taxpayer money than any of the private banks or investment firms.

Housing Bubble

In a 4/6/09 WSJ op-ed, a former Nobel Laureate in Economics, Vernon Smith, and a research associate, Steven Gjerstad, examined the several decade long causes of the real estate bubble.

In 1983, the Bureau of Labor Statistics (BLS) changed their methodology for measuring the housing cost portion of the Consumer Price Index (CPI). “They began to use rental equivalence for homeowner-occupied units instead of direct home-ownership costs.”

From 1983 to 1996, home prices were about 20 years worth of rent payments. Between 1996 and 2006, they increased to over 32 years of rent payments. Had this housing inflation been reflected in the CPI, “inflation would have been 6.2%, instead of 3.3%.” Remember that 6% real inflation figure.

The many economists at the Federal Reserve Board (“Fed”) looked at the modest increases in the CPI over the past decade and, concerned as they were about the increasingly heated housing market, didn’t see a direct correlation with the CPI. They attributed this to productivity gains, the lower cost of computers, appliances, etc. The Fed kept interest rates low.

Joe and Mary, average American homeowners, may not have known about the housing component metrics of the CPI. All they knew was what things cost the previous year and what they cost this year. With mortgage money at about 6%, Joe and Mary instinctively knew that they could borrow money on their house at an effective 0% interest rate, the real CPI of 6% minus the 6% mortgage interest rate. It was free money, and “household borrowing took off.” The CPI data model was out of sync with reality, a reality that Joe and Mary knew well.

The authors compare the crash of 2000 – 2002 with this one. That earlier crash wiped out $10T in equity assets yet it caused no damage to the financial system. In this crash, a relatively small $3T decrease in real estate equity has decimated the financial system. How? Like the great depression, it was leverage.

The authors point to a misconception that the market crash of 1929, with 9 to 1 leverages on stock, brought the financial system down. But the banks did not begin their tumble till after the drastic fall in real estate prices beginning in 1930. Mortgage debt during the 1920s had more than tripled.

In the 2000 crash, most owners owned their stock holdings outright. They absorbed the loss of falling equity prices. In this real estate crash, leverages of 9 to 1, or 99 to 1, were common. Lower priced housing was hit hardest, declining by 50% in some cities, and this fall in home equity hit an economic group that could least withstand the impact.

In a WSJ article 3/18/09, Kathy Shwiff reported that delinquencies of Alt-A, or alternative documentation, home loans issued in the past few years have climbed to more than 20%. These loans were issued to people based solely on their credit scores. Often, there was no documentation or verification of income or whether the person’s income would reasonably allow them to make payments on the mortgage.

Medicare

In a 4/17/09 WSJ oped, Marc Siegel, an internist and associate professor of medicne at the NYU Langone Medical Center, notes a 2005 Community Tracking Physician survey showing that only half of doctors accept Medicaid. He cites a 2008 Medicare Payment Advisory Commission report that “28% of Medicare beneficiaries looking for a primary care physician had trouble finding one, up from 24%” in 2007. A Texas Medical Association survey in 2008 found that only 38% of doctors took new Medicare patients.

My mom’s primary care doctor, who has been in the field for 40+ years, made the comment that many younger doctors specialize because it pays so much more than primary care. As the baby boomers age and need more medical care, there simply will not be enough primary care physicians to handle the load.

Medicare’s payment schedule for medical services penalizes doctors who emphasize preventative care. Medical professionals are paid more if a patient has a heart attack than taking steps with the patient to reduce the chances of a heart attack. Because of its size, Medicare’s philosophy and reimbursement approach dominates the entire field of medicine.

The Dough Rises

Where’s the dough?

The Market Beat column in the WSJ 3/31/09 noted that U.S. Banks traditionally carry about $300B in cash. As of March 18th, they had $976B, more than triple the usual level. The M2 money supply – checking deposits, savings accounts other than IRA saving accounts, money market funds – are up 10% this year.

Americans are saving. The banks just aren’t lending out those deposits as quickly as they are received.

Windbags

In WSJ article, 3/26/09 Rebecca Smith writes: “The electric-power industry accounts for nearly half of all water withdrawals in the U.S., with agricultural irrigation coming in a distant second at about 35%. Most of the water used by the utilities is returned to the rivers or ground water. In the arid western states, water supply has become an important factor in favor of alternative energy systems. Solar and wind energy require no water.”

Where is the largest wind farm in the world? Texas, of course, the land of the largest. If they installed a wind turbine in front of the speaker’s podium at the House Of Representatives, it would generate enough power to light up all of Washington!

Taxes

What percentage of your income do you pay in taxes? At the beginning of March, I heard a working class person complain that Obama was “soaking the rich” at 35%. Presumably this person was complaining on principle. By another principle, that of self-interest, a working class person might also cheer that Obama is “soaking the rich.”

What is rich? For 2006, IRS data shows that the top 1% of tax returns had an AGI (Adjusted Gross Income) above $389K. I would say that the top 1% qualifies as rich. Yet, some rich people don’t feel rich.

In the 4/16/09 WSJ weekly “Currents” feature, Gary Fields spoke with several of the rich and near rich, those in the top 1 and 2% income tiers. The owner of a human-resources company in Silicon Valley, California and his wife make about $400K but feel like they are barely getting by. San Jose, CA mayor Chuck Reed calls a family making $250K in Silicon Valley “upper working class,” unable to afford a home in the area.

What did this top 1% pay in Federal income tax? Just under 23%. Wait a second.. what happened to the 35% rate? That is the marginal rate, not the average rate.

If someone is in the 35% tax bracket, that doesn’t mean they pay 35% on all of their income, only on the portion of income that is above the 35% bracket threshold. A person making a $500K salary still only pays 10% tax on the first $16K of that salary. In the 2008 tax year, if someone made $357,701 they paid 27% or $96,770 on the $357,700. They paid 35 cents on the extra dollar.

Warren Buffett once wryly remarked that he paid less in taxes as a percentage of his income than his secretary did. How do the top 1% cut their average tax rate? Many have a significant portion of their income in capital gains, which are taxed at 15%, the rate for middle class taxpayers earning less than $65K.

In a history of the capital gains tax, the Tax Policy Center reports that “The Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) cut the top tax rate on long-term capital gains from 20 percent to 15 percent, the lowest level since World War II.” Obama’s budget proposes to restore the 20% tax rate on those families making more than $250K. For some historical perspective, this level is more favorable than the recommendations of a 1997 Congressional Joint Economic Committee Study.

There is an old saying: “The poor fight the wars, the rich pay for them.” Former President Bush, together with his party, had a novel idea on this centuries old maxim. Why not have the poor fight the wars in Iraq and Afghanistan and not have the rich pay for it? Instead, the U.S. would charge the war expense on its “credit card”, the U.S. Treasury. It was an interesting idea that didn’t work out so well as the “credit card balance”, the national debt, of the U.S. grew from $6.2T in 2002 to over $10T in 2008.

Defense spending has almost doubled since 2002. To keep our country strong, the rich need to do the noble thing and pay for it. Defense spending is an insurance policy on one’s assets.

President Obama and his wife paid over $700K in taxes last year on $2.7M in income, most of it from the sale of Obama’s books. They didn’t complain about paying that much in taxes and I promise that I will be noble and won’t complain if I make $2.7M next year.

Drug Dealin’

If I were the head of a large network of illegal drug distribution in the U.S., I would want a political and legal environment that promoted my business.

I would donate to the campaigns of conservative politicians who would vote to continue to keep those drugs illegal. Better that the profits go in my pocket than to state and Federal treasuries in the form of taxes.

I would donate to the campaigns of politicians of a moderately liberal bent who would vote to lessen penalties for small time users. When my customers are in jail, they don’t buy my product. I shun the more liberal politicans who want to legalize any of these drugs and eat into my profits.

I would donate to politicians who favor stricter, but not too strict, security measures at the border because this will make it more difficult for my less sophisticated competitors to get product into the U.S. I would prefer more moderate conservatives for this task.

In short, the political and legal environment in the U.S. is pretty close to optimal for a well run illegal drug distribution network.