January 8, 2017
The New Year begins, the 9th year of this blog that began during the financial crisis. For two decades I had studied financial markets but the financial crisis surprised most people. This was my attempt to organize and share my thoughts.
Sales Tax Collections
Let’s look at a data point that has been a consistent indicator of economic health – sales tax collections. This is not survey data or economic estimates but actual tax collections based on consumer purchases. For the first 3 quarters of 2016, sales tax collections are up 1.6% above the same period in 2015. (Census Bureau) As we will see, this tepid growth rate does not compare well with the historical data of the past 25 years. Below is a quarterly graph of sales tax collected in the 50 states.
As we can see in the graph above, the 2nd quarter (orange bar) is the highest each year, and is a good indicator of consumer activity and confidence. Since population growth is about 1%, the annual growth of sales tax collected should be above that mark to be effectively positive.
In the graph below, we can see negligible or negative growth in 2001, 2008 and 2016. In 2001 and 2008, we were already in recession, although it took the recession marking committee at the NBER almost a year to declare the beginning of those recessions. By selecting the 2nd quarter growth rate in the historical data, we can more easily see the weakness at the start of an economic downturn.
In retrospect, 25 years of data is rather sparse. We can only hope that this year’s lack of sales tax growth may turn out to be a warning sign only, a fluke. Third quarter tax collections were effectively positive, but only 2% growth, and that annual growth has consistently declined in the past three years in a pattern exactly like the weakening of 2006 – 2008.
Of particular note in the graph above is the steep 10% drop in sales tax collections in the second quarter of 2009. Fom a vantage point eight years in the future, we may have forgotten the degree of fear during the winter of 2008-2009. The American people were holding onto their money. State budgets were crippled by the lack of sales tax collections, an important and ongoing source of revenue for state and local governments.
See end for a side note.
Business Insider published a chart of 2015-2016 population data from the Census Bureau. We can see a clear shift from the northern states to the mountain and southern states. Retiring boomers, who want to maximize their fixed incomes, will shift from states with high state income and property taxes like New Jersey and New York, and move to states with lower taxes.
In a few weeks Republicans will control the legislative machinery, and have promised tax reform that, after thirty years, is overdue. One of the proposals on the bargaining table is the end of the home interest deduction, which prompted this blog post at Slate. The author contends that the elimination of this deduction will hurt middle class homeowners, who will see the value of their homes decline by 7%.
I’ll add in some contextual data from the IRS. In 2011, 22% of the 145 million (M) returns claimed mortgage interest totalling $321 billion. ( IRS tax stats Table 3) People making a middle class income of less than $100K claimed half of that interest – 14% of all returns. The average interest deduction for these middle class households was $8100.
Two million returns with incomes of $500K and above claimed $46B in mortgage interest, about 15% of the total interest claimed. For these high earners, the average deduction was $20,000.
The tax reform of 1986 eliminated the interest deduction on credit cards and cars, but lawmakers could not go the final distance and squelch the home mortgage interest deduction. At the time, auto dealerships complained that, without the interest deduction on new car loans, their business would suffer. Tax subsidies affect both consumers and the businesses who are indirect recipients of the subsidy. Should 78% of taxpayers subsidize the housing costs for 22% of taxpayers? Certainly, the 22% appreciate the subsidy! The real estate industry continues to resist any tax changes that might have a negative impact on their business. Each industry deserves a subsidy of some kind because that industry is important to the overall economy – or so the argument goes.
The End of Capitalism – Almost
Let’s get in the wayback machine and dial in 1997. The dot-com boom is not yet a bubble but is growing. Cell phones are growing in acceptance but the majority of people do not have one. A one year CD is paying more than 5%. The unemployment rate is about the same level as today (2016). What is very different between then and now is the number of publicly traded companies. In 1997, there were over 9000 listed companies. Today, there are about 6000 companies. The 2002 Sarbanes-Oxley (SB) law has such stringent and plentiful financial reporting regulations that many companies decide not to go public, or to sell themselves to a larger company that already has the internal infrastructure in place to comply with SB regulations. Both parties want to repeal or amend the law but cannot agree on the details. Readers can click for more info.
Next week I will compare the 10 year performance and risks of various portfolios. There are some surprises there.
Side note on Sales Tax. The Federal Reserve charts retail sales but these are based on data samples and will not be as accurate as the actual tax collected. When retail sales are adjusted for inflation, the year over year growth can give a number of false positives. In the graph below, I have marked up periods that went negative without the economy going into recession. I think that the actual tax collected may be a much more accurate predictor of economic weakness.