Friday, May 25, 2007

This Week's Theme: Why The Truth Can't Be Told

The Coming Bankruptcy of Government

Waste and the Federal government are basically synonymous.
The list is basically endless, but just to hit the highlights:

The profiteering war in Iraq. Thanks to longtime correspondent U. Doran, we can learn that our soldiers have been ordered to have KBR (formerly Kellogg Brown and Root, Lyndon Johnson's old Texas buddies who made millions building all those bases in South Vietnam we left for the incoming Soviets) do their laundry for $100 a bag: Iraq for Sale.

Medicare waste and fraud. (google that if your dare)

Homeland Security contracts. (covered here before)

Social Security fraud. ("crazy money," immigrants' parents drawing benefits without paying in a dime, etc. etc. etc.)

Highways and bridges to nowhere. (boondoggles and pork to highway and construction industries)

Pentagon waste and fraud. (multiple levels)

Interest on National Debt. $240 billion paid each year (and rising fast) mostly to foreign entities who have kindly financed our trillion-dollar borrowing binge. If that isn't criminal waste, then what is?

The above chart shows where all this is heading: national bankruptcy. Expenses (entitlements, Homeland Security, Defense, interest on debt) are rising far faster than income (tax payments) and will soon skyrocket beyond any hope of borrowing to fill the gap.

In other words, blah blah blah. Nobody cares--yet.

So let's turn our attention to local government, which is also teetering on insolvency nearly everywhere even at this peak of "prosperity." By local government I mean not just cities, counties and states but also school districts, municipal water systems, university systems, housing authorities and the vast array of other governmental bodies which live wholly or partially off tax receipts.

For an aperitif, let's take a quick look at a few examples of the waste, fraud, "gaming the system" and insanely optimistic financial projections which are built into local government.

Extra pay, perks continue to flow despite scandal; U.C. Officials override rules to give more than $1 million to 70 execs.

Dead Tenants Get Low-Income Housing; City Blames Staff.

"The Berkeley Housing Authority has paid rent on at least 15 units where tenants are dead—as much as two years of rent on the deceased, failed to inspect units where substandard conditions exist, and allowed ineligible family members to “inherit” a unit ahead of others on the waiting list.

These are just a few of more than a dozen serious problems cited by City Attorney Manuela Albuquerque in a report to the Berkeley Housing Authority members. The report also recommends the removal of all housing authority staff except new manager Tia Ingram.

HUD (the Federal Housing and Urban Development department) has deemed the Berkeley agency “troubled” since 2002; if the authority does not significantly improve, it could ask an agency outside Berkeley to manage the city’s low-income housing efforts.

The housing authority “has long been the Siberia of Berkeley’s ‘no lay-off’ policy,” he said.

Employees won’t be laid off. “We’re looking at it as a major reshuffling,” City Manager Phil Kamlarz said in an interview Monday. Some employees may go through the city’s “progressive discipline” procedure in other departments, he said. "

Allow me to summarize: A city agency has been "troubled" i.e. incompetent, fraud-ridden, etc. for five long years before the city finally takes action. Then the employees and managers are rewarded for their fraud and incompetency with lifetime employment and rich lifetime benefits.

Predictably, the public employee union is already threatening action against the city.

"Service Employees International Union 1021 officials said Wednesday they are seeking legal advice regarding the council action, as it may have violated workers’ contracts."

In other words: there is simply no level of fraud or incompetency which public employee unions will not defend to the bitter end.

Frequent contributor Albert T. sent in this story about a 65,000-employee public pension plan which is finally facing the realities of slower stock and bond market returns. The stupendous under-funding of public pensions is a little-noticed iceberg we as a nation are about to hit.

The holiday's over: Regents' plan to reinstate contributions to pension plan is a watershed event for UCRP and its members

"Nationwide, the New York Times reported, "state and local governments owe their current and future retirees roughly $375 billion more than they have committed to their pension funds" by one estimate; that number balloons to $800 billion, it wrote, "if America's state pension plans were required to use the same methods as corporations." Public-employee pension funds are not covered by federal pension law, held to a uniform accounting standard, or protected by the PBGC; instead they're governed by boards with relatively little oversight, and must appeal to the taxpayers to fill the gap if they end up in the red.

Many eyes on the pension prize:

"UC Regents' plan to restart contributions to the UC Retirement Plan (UCRP) in July 2007, following a 16-year "holiday" during which UC and its employees did not pay into the pension fund.
Allow me to summarize the situation nationwide: The outsized gains in the stock and bond markets in the 90s infused managers of public pension funds with the irrational exuberance that such returns were now "normal" and could be counted on indefinitely. Therefore, most pension plans inserted wildly improbable annual returns in their projections."

Alas, 16% annual returns turned out not to be normal but a brief aberration. In those heady days, so great were the returns that public employees didn't even have to contribute a dime to their own pension plans. Now they are up in arms because they actually have to contribute a small (1%-2%) amount of their salaries to their own pension plans.

The debate now rages between those who want the pension fund to be "actively managed," which generates hundreds of millions in fees for outside financial management firms, or "passively invested" in index funds.

Albert made this point about "actively managed" funds:

"Actually funny a little since we are on the topic there was an article review I did for one of my classes on an article from journal of finance about fund management. Basically 80% of funds fail to cover their fees and perform worse than the benchmark they pick. Only 10% of funds cover their fees with returns in excess of the benchmark. There was one funny thing in that paper: basically about 120+ funds did -5% per year or less but by luck alone only 60+ funds should have... So the others are there due to "skill".

What nobody in the public pension world seems to address is the possibility--or even the extreme likelihood--that annual returns on their funds could be a negative number fot years to come. Everyone seems to have forgotten that stocks and bonds can actually drop in value for years. What happens when the fund drops 16% per year for a few years, rather than grows by 16%?

Longtime contributor Harun H. neatly summarized a similar "unvirtuous cycle" of declining tax receipts facing local governments:

"Despite a stock market setting “new highs” even states are struggling to make ends meet. What happens as property values continue to collapse forcing a downward readjustment of property taxes causing a drop in tax receipts followed by a sharp increase in unemployment causing an even greater drop in tax receipts, followed by sharply decreasing corporate earnings due to fall off in consumption causing an even greater decrease in tax receipts."

Just how painful this cycle will be can be ascertained by looking at the phenomenal growth in property values (and thus property tax receipts) local governments have enjoyed. For example, Florida:

please go to to see the chart.

There is one more massive piece in the coming cycle of declining tax receipts: the destruction of small business. Correspondent Brian H. files this report, which all of us self-employed /small business proprietors can instantly relate to:

"It’s not just healthcare, it’s all the endless mind-numbing rules by our beloved nanny-state government.

You really just have to decide which ones to ignore. (which isn’t a good long term thing for any form of government)

Why do illegals own the lawn care business? Because they ignore most of the rules.

Insurance?, truck insurance? Business insurance? Liability insurance? Really think that beater POC truck is registered? And passed emissions?

Let’s not forget workman’s compensation, all the OHSA rules, all the safety rules, all the EEOC rules about who you can hire, where you can dump grass, when you can operate machinery, how old you can be, etc, etc, etc. Let’s not forget break times, when to clock in and out, keeping records for yeas, etc. Building inspections (of both yours and the one you work on), bidding rules, bonding. Even the type of can you can put gasoline in is tightly regulated. After a while, it’s like, well, we’re doing it, but we’re not doing it.

How can I, a law abiding citizen, compete with that? My overhead is 3 times what theirs is. Back when I used to do lawn care (before giving up and finding something with better barriers to entry) I’ve bid jobs where their bid is less than my parts cost. How can that be?

Do you know why spraying your lawn for weeds costs so much?

It’s not the chemicals, or really the equipment, it’s all the GD rules. Here in Colorado (which is probably way less than NY or Kali or somewhere else), you have to get a license (and of course pay for it), which includes taking a test and passing it. Then, your supervisor also needs to pass a bigger and harder test and the yearly license costs about $300 This needs to be with you at all times, and the supervisor needs to be on duty when you are spraying. Then of course, you need business insurance. Which, sit down, for a one person truck, with all the licenses is about $8,000 dollars per year (yes, that’s right, eight grand, my plumber, a one person truck, pays about 1200 a year)

All of this just to spray 2,4D on your lawn which you and I can buy as private citizens in WalMart. (also known as Weed-B-gone).

No, we don’t spray, and we can’t even find someone to subcontract to do it. Who wants to? And if you do find someone, it’s expensive as hell, because of all this crap.

That’s just one example. Heck, just today my wife has to go register our trailers. (why exactly do I have to register cars anyway? They don’t drive, they don’t have privileges, they don’t go out on the street by themselves at night without supervision).

1. it’s going to be a couple hundred dollars

2. it’s going to take hours

And for what? Absolutely nothing, just another damn tax.

Get the damn government out of the way and we could do amazing things."

Every year we pay over $1,000 "city business license" for the stunning privilege of operating a legitimate business in this city. This is a percentage of gross income, not net, meaning if you are losing money, the city doesn't care: you pay them first out of gross income.

This kind of "junk fee" which returns absolutely no benefit, and which seems to rise by leaps and bounds every few years (the city just raised another small-business tax by about 30%) is rife in local government. And do you know the predictable result? Small businesses are closing, going out of business. If you don't think this is a reality, you need to get out more. And with the loss of those tax receipts, you also lose jobs.

The media loves to focus on big corporations, but the real engine of employment growth is small business. Once you strangle that sector with rules, fees and taxes, then you've strangled both your tax and employment base.

Astute observer/correspondent Riley T. sent in a report which nicely summarizes the two issues of unaffordable/underfunded public pensions and the wearing down of small businesses:

"I know this will sound crazy but I wonder if there really is something in the water. No one seems to care about what's going on. I can't find anyone I know personally that can even imagine that something could go wrong. A good friend has a navy pension, a California state pension and Social Security it is impossible to get him to even think that something might go wrong. I have a nephew who had saved up $6500 and he used every penny to buy a juke box.

I have driven around the country in my motor home during the summers and there are a huge number of businesses closed. Closed businesses are not included in the governments calculations.

I truly don't know any one personally who thinks there might be a problem. I agree with you that the stock market is on the verge of collapse. Housing is the same. What the hell is going on? Something has totally fried their brains."

So why don't we read more about these issues? We can only speculate, but the fact that the print media itself is largely unionized may have something to do with the limited coverage of public pension plans and local government fraud/waste/gaming the system. Since the reporters and editors are union members, their sympathies rather naturally reside with public employees, not with the small businesses which ultimately support the local government with direct taxes and the jobs which also generate taxes.

Now let me state yet again that many public employees I know are hard-working, conscientious people whose offices are chronically understaffed. The problem is that the system (agencies and their unions) enable or even encourage incompetent/lazy workers to "game the system" to milk maximum pension and retirement benefits. And what kind of work ethic and productivity do you engender when employees know they can never be fired, no matter how much they rip off the public they supposedly serve? To claim this is not a pervasive, deeply eroding problem is to simply be in denial.

So when will these issues gain attention? When local governments start declaring bankruptcy to get out from contracts that are no longer affordable, when pension plans fail, and when tax receipts plummet. But we're not there quite yet; perhaps 2008 will be the first year of reckoning.

Until then--The Truth Can't Be Told. Except perhaps on page B-27, every once in a while, without charts, graphs or splashy headlines, just a boring little sidebar no one notices.

Thank you Michael M. ($16.00) for your unexpected and generous donation. I am greatly honored by your continuing support. All contributors are listed below in acknowledgement of my gratitude.

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