The Real Reason for College Tuition Increases

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The past year has seen a wave of protests by California’s public university students against tuition increases. These students have often been encouraged by their professors. But maybe the people encouraging them are the people they should be protesting against. Tuition increases are necessary because of increasing expenses, and the single most significant source of expenses in California’s university system are the personnel costs. So how much does a professor make? Could the solution to California’s higher-education budget crisis be not to raise tuition, but instead to lower rates of compensation?

It isn’t hard to get an idea what taxpayers and students end up paying our college personnel. One can refer to the Sacramento Bee’s “Search for State Worker Salaries” link, where you can enter the first and last name of a full time state university system employee and it will display their salary for the most recent year. For this analysis, I went to a department website and got the name of an associate professor with one of the social sciences at U.C. Davis, and learned that this individual earned a salary of $89,467 last year. According to the department website, this associate professor earns $89K per year in return for teaching (this spring quarter) one class, that meets for two hours on one afternoon per week. The professor is also obligated to be available to his students for office hours for one hour per week, immediately after class.

Clearly there is more to this professor’s job than showing up to school for three hours per week. In order to earn $89K per year this person has to prepare lesson plans, grade papers and exams, and presumably engage in research. And spring quarter may be a light quarter, and usually this professor may have two classes, or even three classes, requiring a presence on campus for 15 or even 20 hours per week. But before considering whether or not a typical social sciences professor in California’s university system actually works full time, let’s calculate how much their benefits are worth. Because total compensation has to include all costs, including current benefits and current funding obligations for future retirement benefits.

There is a Total Compensation Calculator provided by the UC Davis Dept. of Human Resources that can get us started. Assuming this individual is single and has no dependents, and elects to receive PPO Health and Dental Insurance coverage, and also taking into account the annual funding being set aside by the university for their retirement pension, their actual compensation per year is not $89,467, but actually $111,260. And it doesn’t end there.

As discussed in earlier posts, specifically in Sustainable Pension Fund Returns, but also explored in California’s Personnel Costs, Maintaining Pension Solvency, and elsewhere, it is not likely that the pension funding obligation disclosed in the “Total Compensation Calculator,” in the case of our social sciences professor, $15,755 per year, is going to be adequate. This is because the pension funds currently assume they can earn a real rate of return of 4.75% per year – that’s the return on the total fund investments after inflation – when in reality a sustainable return over the next few decades is unlikely to exceed 3.0% per year. Our social sciences professor, like most all non-safety personnel in the UC System, will get a retirement pension according to the following formula: # years worked x 2.5% x final year salary (ref. University of California Retirement Plan). It is reasonable to assume they will work 30 years, live for 30 years in retirement, and collect 30 x 2.5% = 75% of their final salary as a retirement pension for 30 years, or $67,100 per year (with cost of living adjustments) for the rest of their life. This is, by the way, about triple what someone can expect after working 40 years and then collecting social security, but more to the point, will a contribution of $15K per year for 30 years yield a sufficient amount of money to fund a pension of $67K per year for 30 years? One must fight the temptation to let the mind wander, because the next few facts are key to understanding one of the biggest financial tsunamis the world has ever seen, and it is just offshore.

At a CalPERS official projected rate of pension fund returns (after inflation) of 4.75%, a 75% pension for 30 years, funded by 30 years of contributions, would require an annual contribution of 25% of salary, or $22,367 per year.

At a more realistic projected rate of pension fund returns (after inflation) of 3.00%, a 75% pension for 30 years, funded by 30 years of contributions, would require an annual contribution of 41% of salary, or $36,681 per year. Care to wager as to which figure is safer to use? Remember you’re wagering on the future of your children and your nation.

By this reasoning, our social studies professor doesn’t make “total compensation” of $111,260 per year, but $132,186 per year. But we’re not through. Returning to our handy “Total Compensation Calculator,” provided by UC Davis, the following footnote is instructive: “The value of UC’s generous sick leave and vacation time is not included in this calculation.” So how generous is this benefit, and how does that compare to the sick leave and vacation times typically afforded in the private sector?

If you refer to the UC Davis “Accrual of Vacation” page, you will see an employee, on average during their career, will enjoy four weeks vacation per year – 20 working days. Similarly, on the page referencing holidays, you will see they enjoy 13 holidays per year. These are conservative numbers, of course. In reality our social studies professor gets the Christmas break, a few weeks, the Spring break, a few more weeks, and the whole summer off, a few more months – and we haven’t calculated the value of their sick time policy, as the UC Davis HR Dept. helpfully suggests we consider. But even if you simply compare the 33 paid days off, as though school was in session 52 weeks a year, you are still seeing our professor enjoy at least 50% more days off than the average private sector worker. Pick a number – let’s tack on the value of 16 days off by taking a daily rate of $89K / 2,000 x 8 = $356 and add another $5,696 to our total compensation, to get ourselves to a grand total of $137,882.

This sort of pay is not on the high side, it’s actually fairly typical for employees of California’s higher education system. Take a look at all of the pay scales, again courtesy of UC Davis’s HR Dept.:  Professional & Support Staff Salary Grades, and Managers & Senior Professionals Salary Grades. You will see the lowest paid full-time position in the system is $25,668 per year. But at the lower end of the salary scale benefits actually represent a greater percentage of total compensation. If we apply our calculations used above to this lowest salary, we will see this position actually pays, including all benefits, at least $39,765 per year. This is the lowest rate of total compensation you will find. The maximum rate of pay for a UC Position, before benefits, is $282,372.

Comparisons to the private sector boggle the mind. The lowest rate of pay in the entire massive California system of higher education is more than the average income for a private sector worker in this state. Most of these workers enjoy a rate of total compensation that is only found in the highest echelons of private business. Most of them, when you include the value of their benefits, are collecting six-figure rates of compensation.

When students, abetted by their professors who apparently have ample free time, protest against rising tuition, they are failing to identify the true culprits. Because the reason our university system is going broke is because our teachers in higher education have become the most extravagantly compensated, pampered class of workers in the history of the world – and taxpayers, along with students, are forced to pay for this. And this disparity between our taxpayer-funded academic class and the rest of us is not unique. The same disparity exists in all government positions today in California. Nearly all of them are grossly overpaid.

The solution to government deficits is not to raise taxes or tuition. It is to bring rates of compensation for faculty and staff at our state funded colleges and universities down to reasonable and sustainable levels, and apply that solution across the board in all of our state and local governments. The next time a student suggests their tuition is too high because taxes are too low, ask them if they think it is fair to pay someone $138,882 per year to work one afternoon per week, and take summers off.

An Environmentalist Agenda for Earth Day 2010

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Back in 1970 when we celebrated the first Earth Day, what would we have thought if we had known what environmentalism would become by 2010? Back then I was in 7th grade, and an avid member of my Junior High School’s “ecology club.” We planted trees, collected litter, and painted all the garbage cans on campus green, among other things. And back then, as now, the teachers were enthusiastically encouraging the students to care about the planet.

The results ensuing in the 40-50 years since “Silent Spring” was written and the first Earth Day was celebrated are impressive. When I grew up in California’s Santa Clara Valley in the 1960’s, on a bad air day you couldn’t see the Santa Cruz Mountains five miles away. Then we got rid of unleaded gas and mandated catalytic converters and today, with ten times as many people living in what we now call the Silicon Valley, there is never more than a faint wisp of smoggy haze, even on the worst days. We cleaned up our rivers, got rid of acid rain, saved the Condor and countless other magnificent wildlife species, and on and on and on. And then we went too far.

Today environmentalism is run amok. It is the creator of artificial scarcity, the enabler of the very corporate greed its denizens naively decry, it is a faith and a religion, an ideological smokescreen for statism and socialism, and it has lost most of its connection to the original values we believed in. And the reason for this is clear – once the environmentalists accomplished important goals, their cause began to lose visibility and had to struggle for relevance among the American public. So instead of continuing to emphasize environmentalist goals that still mattered, environmentalists sold out, and embraced the absurdity of anthropogenic climate change.

In honor of Earth Day and everything it still represents that is good and still urgently valid, this post isn’t to debate, yet again, whether or not the earth’s climate is catastrophically tipping, whether or not humans have caused this, or whether or not humans can do anything about this. Read “The Climate Money Trail,” and the reports linked to in that post, and make up your own mind. It is beyond comprehension to me that anyone can follow the logic and facts in those posts with an open mind and fail to conclude what I have, that concerns about anthropogenic climate change are unfounded.

Instead of dwelling on that debate, in honor of Earth Day, here is a list of genuine environmental challenges that remain with us. Challenges we might be making more progress in addressing, were the trajectory of our responses not diverted by the great boogyman of climate change:

1 – Enforce sustainable fishing on the world’s oceans. Stop incinerating the world’s forests to grow subsidized biofuel. Revisit plans to carpet the world’s open spaces with wind generators and solar farms.

2 – Eliminate toxic metal and microscopic particulate emissions from coal powered generating plants. Complete the transition to clean fossil fuels (clean, not CO2-free). Develop clean coal, shale gas, and offshore oil.

3 – Clean up tainted aquifers in places like the Los Angeles basin and begin harvesting and storing storm runoff.

4 – Build nuclear-powered desalination plants to augment natural sources of fresh water. In general, accelerate construction of nuclear power stations.

5 – Eliminate particulate and other genuine pollutants from heavy diesel trucks and machinery.

6 – In order to stimulate economic growth, which will empower society to fund genuine environmental mitigation, repeal “decoupling” policies so public utilities will nurture competitive, cheap energy and water from all sources, instead of enabling utilities to make more money when they produce less.

7 – In addition to encouraging wealth creation, support female literacy around the world, so the combination of wealth and literacy leads to voluntary reductions in family sizes, accelerating humanity’s inevitable path towards population stabilization.

8 – Continue reasonable and realistic attempts to protect endangered species, including educational campaigns to reduce consumer demand for endangered animal parts.

9 – Restore balance to protection of open space and wilderness areas, recognizing that excessive curbs on private land development hinder economic growth which in-turn reduces the financial wherewithal to mitigate genuine environmental challenges.

10 – Reinvent environmentalism to embrace property rights, limited government, and reasonable environmental goals, in order to achieve a clean, sustainable civilization on an accelerated path to universal abundance and prosperity.

This set of objectives may seem like heresy today, now that the global environmental movement has been hijacked by the climate issue. But 40 years ago these objectives probably would probably have seemed reasonable. The message that should be carrying the day right now is that rational environmentalism prevailed. It is institutionalized and its accomplishments are dramatic. Fulfilling these objectives here would return environmentalism not only to a viable common ground that would benefit everyone, but would arguably return environmentalism to its roots.

Earth Day should be a celebration of the accomplishments the environmentalist movement has logged over the past 40 years. It should also be a celebration of the future – where technology will yield abundant energy and water, and voluntary urbanization combined with voluntary population stabilization will yield abundant open space. But to realize this promising destiny, environmentalists must embrace capitalism, the engine of prosperity, the enabler of progress, and abandon the climate-inspired litany of doom.

Fiscal Conservatism is Social Justice

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Back in the 1980’s I listened to a speech by Art Laffer, who at the time was still a USC professor of economics, and was considering a run at one of California’s U.S. Senate seats. He said something that needs to be said more today, in reference to the running argument between liberals and conservatives over the role of government – he said “we both want the same thing.” Liberals and conservatives both want increased prosperity, and both want social justice. While a cynic might dispute this assertion, most of us probably agree. Well-intentioned people on both sides of the political divide want the same positive outcomes, they only disagree on how to get there.

The problem for fiscal conservatives today to convince voters they really mean this (notwithstanding the fact that few of them have the courage of their convictions, as the Bush II administration amply demonstrated) is mainly because it’s a harder rhetorical argument to express. After all, isn’t the role of government to redistribute wealth? And therefore, of all things, shouldn’t this redistribution be designed to help the less fortunate? The communist extreme, “from each according to their ability, to each according to their needs” is a much easier rhetorical argument to make.  It is virtuous to suggest that government should help people in need, and it is easy to assail anyone who argues against further empowering government to perform this role.

One would think the complete collapse of communism in Russia and China would provide a more enduring lesson to Americans as to the end-point of expanding government power and undermining private property rights, regardless of the rationale, but memories are short. It is necessary to reexamine the many reasons why limited government is a more potent enabler of social justice, ultimately, than expanded government. Consider this quote from Adam Smith:

“Virtue is more to be feared than vice, because its excesses are not subject to the regulation of conscience.”

This observation by Adam Smith is something the great undecided center in the American electorate would do well to ponder, because it speaks to the tone that informs much of the big government initiatives today – a tone that seems impelled by conscience, but in fact may be minimally inhibited by conscience. A tone of righteousness, a tone of sanctity. A tone that demands sacrifice, i.e., redistribution of wealth, for the sake of the less fortunate, the underprivileged, and of course, the endangered planet. A tone to be feared, because it knows no excess, knows no restraint, purports to embody conscience, rather than be regulated by it. Before opposing the politics of the left, know that they must be opposed on the grounds of conscience, on the basis of “wanting the same things.” And even if you consistently strive to establish that common ground, the left still has a rhetorical advantage because their policies are so easy to cloak in virtue. Does this advantage make the left the magnet for the sinners, the opportunists, those with no virtue – their ability to prevail politically merely because they can more easily tar and feather the right with the unjustified but easily applied stigma of having no altruism, no empathy? Ponder this need to redefine the perceived premises of left and right, before descending into the details of the debate. We all want the same things. Everyone should know this, but they don’t.

The failure of the federal government to properly regulate mortgage lenders and investment bankers, in that order, has given new and unwarranted credence to the argument that the free market is to blame for today’s economic challenges. But no genuine fiscal conservative would ever suggest that home loans should have been issued to people who can’t afford to pay them, or that commercial banks should have been permitted to use home mortgages as collateral for derivatives. There were laws in place to prevent these practices, and under Clinton and Bush II, these laws were repealed or ignored. The result was an explosion of unsustainable debt that fueled an era of unsustainable economic growth. The solution is to rebuild the economy, not reinvent it, and to appropriately re-regulate or deregulate the economy, not empower the government to expropriate the economy.

There are a lot of angles from which to examine the advantages of fiscal conservatism, complicated by the fact that fiscal conservatives aren’t extreme libertarians. There is a role for government to play, and the irony the fiscal conservatives face in today’s debate is that failures of government are the reason the left has claimed a mandate to expand government even further. Fiscal conservatives can’t reflexively preach the doctrine of lowering taxes and spending and deregulating, and be done with it. Like libertarians, they absolutely must set their course by that ideological pole star, but unlike libertarians, they have to fight in the weeds and thickets of legislation.

The policy debate is subtle: We need to repeal the disastrous health “reform” legislation that was just crammed down our throats, before more doctor’s hospitals are closed or canceled and other unintended catastrophes ensue, but we need health reform nonetheless.  While the current version of financial reform legislation urgently needs to be scrapped – its provision to tax every wire transfer could destroy the dollar as the transaction currency of choice in the world – we still need financial reform. For example, we need to repeal Sarbanes-Oxley, but reinstate key provisions of Glass-Stiegel. The fights are endless. We need to abandon the nonsense of carbon “cap & trade,” but the government needs to retain a role in helping us to collectively address genuine environmental challenges. Fiscal conservatives need to have an alternative agenda that refines and optimizes government, at the same time as they man the barricades to fight runaway government expansion.

At the heart of the leftist agenda remains Marx’s maxim, “from each according to their ability, to each according to their needs,” but a fiscal conservative might invert that famous phrase, and adhere instead to this principle: “From each according to their needs, to each according to their ability.” In this capitalist-inspired version of political economy, a person works because they need things. And their work is valued according to their ability to create a good that is voluntarily purchased in the market. Consider this quote from one of Ayn Rand’s characters in Atlas Shrugged, a hard-nosed banker who might be the model citizen in an economy committed to sustainable growth: “Charity, hell! We’re helping producers… We’re giving loans, not alms. We’re supporting ability, not need.”

Rand’s vision of a country descending into communism, its economy imploding in the process, is not a far-fetched concept, even if her preferred version of an optimally-sized government might not include some of the amenities that even most fiscal conservatives accept. Because if need becomes the criteria to redistribute wealth through government coercion, instead of ability as the criteria to redistribute wealth through voluntary commercial exchanges, the incentives to produce and to work are critically undermined. This fact, even more than the intrinsic (and related) difficulty governments have in operating nearly as efficiently as profit-motivated competitive private enterprises, is the reason fiscal conservatism enables social justice. Because a rising tide lifts all boats. You can’t have a successful, growing economy if you remove the competitive incentives to people to work, and if your economy implodes, the only outcome of equality you realize is one of equal impoverishment and misery.

The other related core concern of the left is a resentment of private wealth. But preserving a legal and tax environment that protects private wealth is essential to preserving the healthy human incentive to work hard and earn money. George Gilder, who understood the need to mix sociology with economics in order to properly assess what policies work or fail in governance, in his towering work “Wealth and Poverty,” had this to say about wealth:

“The rich remain the chief source of discretionary capital in the economy…only the entrepreneur can win the large possible payoff that renders the risk worthwhile, individuals with cash comprise the wild card – the mutagenic germ – in capitalism, and it is relatively risky investments that ultimately both reseed the economy and unseat the rich… it is discretionary capital that finances most of what is original and idiosyncratic in our culture and economy, that launches the apparently hopeless cause in business and politics, that supports the unusual invention, art, or private school, that founds the institutions of the future. Yet it is this kind of spending that is considered waste or recklessness by the mathematical economist and denounced as plutocratic by the leftist politician.”

There are countless examples of why fiscal recklessness in the name of social justice are in reality the creators of social injustice. The destruction of entire generations through welfare, which took away incentives to work, get educated, or keep the family intact. The destruction of competitive American manufacturing, and the attendant loss of jobs, in order to honor financially unsustainable labor union contracts. The inability to maintain public sector infrastructure, and the proposals to enact even higher taxes, in order to honor ridiculously unsustainable public sector union contracts. The failure to develop cheap conventional sources of energy and water under the pretext of saving the environment – with the hidden agenda being a consolidation of power in non-competitive utilities and public sector entities – with the primary victims being the poorest strata of society, for whom the essentials of energy and water are most costly. The scourge of affirmative action, which has undermined the professional credibility of anyone belonging to a protected status group, and reduced their incentive to prove themselves against an immutable standard.

Fiscal conservatives need to present alternative legislation, and they need to repeatedly provide examples of why excessive government control in the economy is hurting the poor more than it helps the poor. But equally important, they must articulate the positive value of the private sector, the free market, the tough-love of a capitalist meritocracy that can – properly regulated but not over-regulated – provide equal incentives, equal opportunities, spectacular success and virtuous profits to anyone willing to work hard. They need to remind voters that most of the innovations and most of the creative wonders we enjoy and appreciate were through deployment of private wealth. For all these reasons, fiscal conservatives must assert without reservations the fundamental truth that will bring them victory and save this nation, that fiscal conservatism is social justice.

Implementing California’s Global Warming Act

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In 2006 California’s legislature passed AB32, the “Global Warming Solutions Act,” a measure that was touted as a trailblazing breakthrough in the dire challenge to avoid catastrophic climate change. Enthusiastically signed by Republican Governor Schwarzenegger, with “early action” measures diligently enforced by Attorney General Jerry Brown, praised by climate crusader Al Gore, this legislation became the model for the world to follow. But the devil is in the details.

In the Spring of 2007 California’s Air Resources Board (CARB) got to work on an implementation plan, in order to fulfill the legislative mandate to have AB32 fully enforced by 2012. Three years later, after countless public hearings, meetings with industry leaders, and endless legal, economic, and scientific analysis, CARB has a lot to show for their effort. CARB has produced so much material, in fact, that it is impossible to briefly summarize the myriad regulations that AB32 has already spawned. Implementation of AB32 will dramatically impact pretty much every aspect of human activity.

The premise behind AB32 is that CO2 is a dangerous pollutant, and that virtually eliminating CO2 emissions is necessary to prevent the planet’s climate from overheating, with all the apocalyptic consequences; rising oceans inundating coastal regions, epic droughts cascading through the world’s fragile forests and killing them, extreme storms, acidic oceans, collapsing agriculture – the end of life as we know it.

If you accept this premise, than the goals AB32 sets forth are perfectly reasonable – they call for a reduction of California’s total CO2 emissions caused by human activity, currently estimated at about 500 million metric tons per year, to be brought down by 2020 to the level they were in 1990, which was about 425 million metric tons per year.

To get an idea of what regulations CARB intends to enact, one may review online copies of their most recent “Climate Change Scoping Plan,” their “Updated Economic Analysis of California’s Climate Change Scoping Plan,” and their “ENERGY 2020 Model Inputs and Assumptions.” From these documents it is possible to put together the broad assumptions that underlie CARB’s ambitious plans for California. The key variables include current and projected figures for CO2 emissions, population, GDP, and total energy consumption in BTUs. If you compare the ratios between these variables, you will grasp the audacious impracticality of AB32, and by extension, of the entire agenda of the global climate alarm community.

As of 2010 California has a population of 39.3 million people, with a GDP of $1.6 trillion per year, and total energy consumption of 7.2 quadrillion BTUs per year. By comparing GDP with total energy consumption, California’s “energy intensity” can be calculated, that is, the amount of BTU units of energy required to produce $1.00 of GDP. In California’s case today, 4,644 BTUs equate to $1.00 of GDP, which is among the best in the world. The United States, for example, has energy intensity of 6,998. India’s energy intensity is 14,221, China’s is 15,512, and Russia’s is a staggering 24,212. This means the Chinese, for example, uses more than triple the energy used by Californians to produce the same unit of wealth. At the other extreme, only four major nations have energy intensities that narrowly edge California’s; Germany with 4,522, Japan with 4,513, the United Kingdom with 4,460, and nuclear-powered France the leader at 4,343. California is already a world leader in energy efficiency, which means it is going to be very expensive to realize additional energy efficiencies. We have already picked the low hanging fruit. We are already an example to the world.

With all this in mind, where does CARB envision California to be in 2020 with respect to these variables? In the mildest case, CARB estimates California’s total energy consumption between now and 2020 to drop by 6.4%, to 7.0 quadrillion BTUs per year. At the same time, California’s population is projected to grow to 44.1 million, and GDP to grow to $2.0 trillion per year. Under this scenario, California’s energy intensity will improve dramatically, dropping to a mere 3,450 BTUs per $1.00 of GDP. Is this practical? Can California produce a unit of wealth while consuming half as much energy as the rest of the United States?

There is only one way, ultimately, to accomplish this goal, and that is through policies that will make energy cost more. Here is where the other shoe drops – because not only is CARB designing policies to reduce California’s total energy consumption, but they are doing this to finance their core mission, which is to reduce the “carbon intensity” of California’s energy mix.

The definition of carbon intensity is how many kilograms of CO2 emissions correspond to $1.00 of GDP, and by this measure, California also scores quite well, requiring only .34 kg per $1.00 of GDP. The United States has a carbon intensity of .40, and only France is significantly ahead of California, with a carbon intensity of .15. CARB intends to reduce California’s carbon intensity by nearly 40% by 2020, from .34 to .21 kg/$1.00 GDP. Put another way, they intend to engineer a reduction to California’s projected 2020 “business as usual” CO2 emissions of 600 million metric tons per year by 30%, to the 1990 level of 425 million metric tons. They intend to do this is by empowering the state to auction “emission allowances” to every business whose operations in California are estimated to emit more than 25,000 tons of CO2 per year. This will affect nearly every major utility, refinery, agricultural operation, and manufacturer in the state.

By forcing industrial entities to purchase permits to emit progressively smaller quantities of CO2, these entities are inevitably forced to pass these costs on to consumers. CARB analysts are on record stating this should not be harmful to the economy because they intend to redistribute the proceeds of these auctions to anyone harmed by these price increases. There are several problems with this. First of all, there are going to be too many people at the table. Utilities, along with all the other major CO2 “polluters,” are going to be at the front of the line, along with the high-tech community, petitioning for subsidies to deploy low-carbon energy sources, or otherwise lower their carbon “footprint.” These would include wind generators and solar farms, along with the attendant extensions of transmission lines to reach these disbursed sources of energy. And because these sources of energy are intermittent, energy storage and backup generation infrastructure will also require new construction. It is important to emphasize that because of all this additional required investment – transmission, storage, and backup generators – no matter how inexpensive solar or wind energy becomes, it will never be as inexpensive as conventional energy today.

In order to sell the cost increases to consumers, who are already seeing utility rate increases of 30% or more as the utilities begin investing in the transition to low-carbon electricity, “smart meters” are going to be deployed at every residential, commercial or industrial account. These high-tech devices will comprehensively monitor energy consumption, eventually communicating with appliances that have embedded, IP addressable communication suites. They will enable the utility to “assist” the customer to micro-manage their energy consumption, providing “incentives” for the customers to upgrade their appliances and modify their lifestyle to consume less energy. In reality, this means people will have to use less overall energy, and consume energy at the approved times, or they will pay punitive rates – even higher than they will already be. It doesn’t take a lot of imagination to see where this is going: Install expensive and toxic compact fluorescent lighting, back-straining front-loading washers, double or triple paned, smaller windows, paint your roof white, down-size your television, add lighting systems that automatically turn off the lights if you left them on, enroll in programs to let experts from the utility into your home to help you with all this and more – or else.

Also in line for wealth redistribution will be the low income communities. If paying to deploy low-carbon electricity generation and transmission infrastructure, and attaching “smart meters” to everyone’s homes isn’t costly enough, consumers able to afford this will also see built into their inflated utility rates an assessment to help the less fortunate. Remember the incentives to the utilities, who in a competitive market would be trying to deliver cheaper services, are completely reversed in California – utilities are regulated businesses that have fixed, negotiated profit percentages. The only way they can make significantly more profit is by collecting more revenue. Without AB32, even in their wildest dreams, California’s regulated utilities would not have seen the possibility of doubling or even tripling their revenues within a decade. Similarly, without AB32, California’s high-tech “green” entrepreneurs and investors would have had to deliver green solutions the old fashioned way – by actually offering something better, faster, cheaper and cleaner – instead of short-cutting the process with legislated mandates and subsidies.

To reduce California’s carbon emissions by 18% in eight years will take more than just selling emissions allowances to industry and imposing smart meters in homes and businesses. AB32 enables new restrictions on land development in California, which already has the most draconian limitations on private property in the nation. In order to develop land, to allegedly reduce vehicle miles traveled, AB32 inspired regulations and legislation will require land development to occur in concentric circles around existing cities. It will place greenbelts around urban areas and require infill instead of expansion. There are a lot of good intentions here, but terrible unintended consequences. The artificial scarcity created by these restrictions, in a sparsely populated state with massive reserves of open space, has already created a housing market that was prohibitively expensive even before the real-estate bubble. Moreover, mandated infill often destroys the atmosphere of semi-rural suburbs, and greenbelts designed to prevent suburban sprawl generally only serve to create exurban sprawl, as developers simply relocate to beyond the greenbelt’s outer boundary.

Along with unprecedented encroachments on our property rights, and insidious intrusions into our privacy, the biggest problem with AB32 is the negative economic impact that it will have, in a state already crippled economically by existing environmental regulations. When one considers the financial costs required to lower CO2 emissions, it is specious to suggest that these costs are somehow offset because they create “green jobs.” When designing regulations for utilities, the job of government is to mandate reasonable environmental safeguards, but to balance that with an equally important mandate to deliver abundant, cheap energy and water.

According to this reasoning, instead of investing in a low carbon electricity infrastructure and surveillance systems to micro-manage energy consumption, California should be investing in nuclear power, nuclear powered desalination plants along the coast, liquid natural gas terminals, efficiency upgrades to existing high-voltage transmission lines, run-off harvesting and aquifer storage systems, upgraded aqueducts, comprehensive waste-water treatment and aquifer recharge, offshore drilling for oil and gas, widened roads and freeways, more airport runways, and buses for mass transit. These steps will result in energy, water and transportation costing everyone in California less. This will benefit businesses and consumers, and make California a magnet for investors and entrepreneurs all over the world. A recent study in Spain entitled “Lessons from the Spanish Renewables Bubble” calculated that for every green job created in Spain, because of higher costs of energy to industry, 2.2 jobs were lost. More specifically, with respect to electricity, they showed that every “green” megawatt of capacity cost 5.3 jobs elsewhere in the economy. The study concluded that these consequences were not unique to Spain’s approach but instead “are largely inherent in schemes to promote renewable energy sources.”

The trump card, of course, to negate all voices of reason, is the alleged threat of global warming. If you are an informed skeptic – something the alarmists contend is an oxymoron – it becomes tiresome to recite the litany of legitimate reasons we should stop, look and listen before going down this well-intentioned path to green hell. The primacy of solar cycles, the multi-decadal oscillations of ocean currents, the dubious role of water vapor as a positive feedback mechanism, the improbability of positive climate feedback in general, the uncertain role (and diversity) of aerosols, the poorly understood impact of land use changes, the failure of the ice caps to melt on schedule, the failure of climate models to account for an actual cooling of the troposphere, the fact that just the annual fluctuations in natural sources of CO2 emissions eclipse estimated human CO2 emissions by an order of magnitude. And let’s not forget – California only is responsible for 1.7% of global anthropogenic CO2 emissions. Does any of this matter to CARB?

Apparently not. If you read CARB’s scoping plan, it is instructive to read the final section “Vision for the Future.” The tentative targets they are setting for California’s CO2 emissions decline precipitously after 2020, to 284 mmt in 2030, to 185 mmt in 2040, and to 85 mmt in 2050. Returning to the notion of carbon intensity, these are mind-numbing objectives. Basically CARB is proposing to completely eliminate fossil fuel from California’s energy mix (barring “sequestration,” another major boondoggle) within the next forty years, and analysts at the agency openly admit they have no idea how they will accomplish this. But according to the climate alarmists, this is the only way to go if we hope to survive. Will California travel this road all alone?

Will California’s Voters Reject their Global Warming Act?

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A citizen’s initiative that looks likely to make it onto the November ballot this year is the aptly named “California Jobs Act,” which would suspend implementation of AB32, California’s Global Warming Act, until unemployment in the Golden State drops down to 4.8%. Passed in 2006, AB32 calls for California’s Air Resources Board (CARB) to write new regulations designed to lower, by 2020, California’s greenhouse gas emissions to 1990 levels. According to CARB’s report “California 1990 Greenhouse Gas Emissions Level and 2020 Emissions Limit,” in 1990, Californian’s emitted 433 million metric tons of “CO2 equivalents” in 1990, and by 2004 these greenhouse gasses had increased to an estimated 484 million metric tons.

Back in 2006, when AB32 was passed by California’s State legislature, and signed by Governor Schwarzenegger, California’s economy was at the crest of the debt-fueled housing-bubble boom. Now that California’s unemployment rate is nearly 13%, the highest in the nation, it is dawning on California’s voters that schemes to go it alone and adopt the bleeding edge of climate mitigation policies may not be the best prescription for economic recovery. Notwithstanding promises of abundant “green jobs,” and visions of a prospering “green economy,” what is most likely to be the economic outcome if California fully implements AB32 by 2012 as planned?

There are several examples surfacing that suggest CARB’s original economic assessment was overly optimistic. An analysis on the net impact of AB32 on jobs in California prepared in March 2010 by California’s non-partisan Legislative Analyst’s Office refuted CARB’s conclusions, and claimed implementation of AB32 would cause net job losses, not net gains. One of the first of studies of the actual economic impact of publicly subsidized renewables, entitled “Study of the effects on employment of public aid to renewable energy sources” was released by economists at the University of Rey Juan Carlos in March 2009.  It documented how the Spanish “green jobs” policies in fact destroyed jobs, detailing this in terms of jobs destroyed per job created and the net destruction per installed mega-watt.

Proponents of AB32 will continue to argue that implementing AB32 will accelerate transition to a prosperous “green” economy, but ultimately their economic argument has to rest on the premise that green policies and green products are cost-competitive with conventional technologies and existing policies. And in most cases, this position is dramatically false. It is one thing to subsidize strategic research into energy technologies that will eventually yield breakthroughs in price and performance, but quite another to require substantially more expensive current renewable energy technology to be deployed at scale today. Solar energy and wind energy are still 2-3x more expensive than conventional energy solutions, and with recent developments in shale gas extraction as well as ongoing progress in safe nuclear technologies, that cost gap is not shrinking. Proponents of solar and wind energy also frequently fail to account not only for the installation cost of these intermittent energy generators, but also the cost of maintaining back-up conventional generators that have to be activated when the sun sets or the wind dies down. They also often fail to assess the costs of constructing additional high-voltage transmission lines to transport electricity from decentralized wind and solar farms to urban areas, as well as the costs to buffer the power grid to accommodate massive fluctuations in generating output from these intermittent sources of energy. Ironically, proponents also fail to assess the costs of lawsuits and permit processes which add, especially in California, massive additional cost to any new energy project, conventional or alternative.

Evidence that renewable energy costs significantly more than conventional energy is not hard to find. An article in the Los Angeles Times, dated March 15th, 2010, entitled “DWP plans 37% rate hike over four years to cover cost increases,” states the primary reason for this is to pay for renewable energy. Other utilities across the state are planning similar increases – not just power utilities, but all utilities who consume power, such as the water, sewage and sanitation districts. All of these utility rate increases cascade into the cost of doing business as a private sector company. And it doesn’t end there – to implement AB32 and realize the ambitious goals for greenhouse gas reduction, CARB intends to rewrite regulations on land-use and land management, vehicle efficiency, building energy efficiency, transportation policies – in general, they intend to regulate virtually every industrial process that results in greenhouse gas emissions. There is a cost for all of this.

California may have a liberal electorate, but Californian’s also have a very well documented aversion to higher taxes. And “mitigation” in the name of global warming is an indirect tax. By raising prices for energy and other resources required by California’s industries, many will leave California. Those who remain will have to defer investment in job creating activity, such as plant expansion or research and development, in order to absorb higher utility expenses and invest in new equipment for mitigation. The “green” jobs created by construction of subsidized, non-competitive energy and utility infrastructure are vastly outnumbered by the jobs lost because the business community has to allocate more of their financial resources to paying energy and utility bills, and consequently have less financial resources to create new products and new jobs.

On the demand side of the economy the same consequences apply. Consumers will have to pay more for energy and other utilities, as well as for products produced in California – including transportation and housing. This will reduce their discretionary consumption, further shrinking the economy. These mandated increases to the cost of doing business and the cost of living in California thanks to AB32 are not explicitly called taxes, but that is what they are.

California has a well-earned reputation as a political trend-setter. Californians were the first electorate to enact term limits. Their property tax revolt in 1978 stunned the nation. California’s voters have the potential – if they vote to suspend AB32 this November – to begin to reestablish their State as a leader of responsible political action. The impact of Californians suspending AB32 will not only be to save themselves from punitive new hidden taxes, but to reignite a constructive discussion regarding what green technologies are really ready for prime-time, and what a realistic balance should be between environmental stewardship and economic growth.

Pension Funding & Rates of Return

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In a March 18th interview (view video), California Gubernatorial candidate Meg Whitman expressed the problem with pensions quite accurately, stating “there is a current period cost of pensions, and that cost is only going to increase.” Whitman went on to say that CalPERS may lower the long-term rate of return they use for their pension fund earnings projections. One of the solutions Whitman offered to California’s pension crisis was to suggest California’s non-safety employees defer retirement from the current age 55 to age 65, and also for California’s non-safety employees to contribute 10% of their salary to their pension fund instead of 5%. How much will this help?

If we assume these reforms are applied at the local level as well – since most public employees in California work at the local level – the calculation of savings based on doubling the average employee contribution from 5% to 10% is fairly straightforward. There are about 1.6 million non-safety, non-federal public employees in California, and their average salary is $60,000 per year. If you take 5% of that, $3,000, and multiply by 1.6 million, you get nearly $5.0 billion per year in savings to the taxpayer. Is this significant? Will this help?

To answer this question, the biggest variable by far is what rate of return you calculate for the pension funds themselves. To illustrate this, consider the impact of Whitman’s other proposal, to raise the retirement age from 55 to 65 years old. As the table below indicates, if we were confident that CalPERS official inflation-adjusted rate of return of 4.75% were possible, these two reforms – raising the retirement age by 10 years plus doubling the employee contribution to their retirement fund – would nearly solve the problem. Raising the retirement age saves nearly $7.0 billion per year, and doubling the employee contribution throws another $5.0 billion into the pot. Suddenly pension funding for 1.6 million non-safety employees in California’s state and local governments only costs $7.0 billion per year, instead of $20 billion per year. Problem solved? Perhaps. On the other hand, when Pippin asked Meriadoc why they couldn’t just run back to the Shire to drink beer, tend their gardens, and smoke pipe-weed, Meriadoc said “Pippin, there isn’t going to be a Shire.”

Let’s suppose you can’t assume long-term real rates of return of 4.75% for the following reasons: (1) trillion dollar funds can’t appreciate faster than the rate of general global economic growth, which over the past 60 years has averaged about 3.0% per year, (2) public equities over the past 85 years have appreciated at a real annual rate of 2.8% per year, (3) central banks are flooding the world with currency to stave off deflation, (4) money market funds are only returning 1.0% per year, (5) the stock market has been flat for the last ten years, (6) household and consumer debt is still at unsustainable levels and nobody is buying anything, (7) banks are holding foreclosed residential real estate assets to avoid further drops in asset values, (8) the commercial real estate market is hanging by a thread, (9) the bond bubble is about to pop, (10) we can’t extract abundant reserves of natural resources because environmentalists have successfully legislated or litigated development to a standstill, (11) the business community has given up and has decided the government is their new customer, and (12) public sector unions have taken over our state and local governments in California – demanding wages and benefits that are bankrupting us – and they are successfully exporting that model to other states and to Washington DC, guaranteeing the tax burden on job creating businesses will go up, not down.

If all that isn’t enough, there is the simple demographic fact that we live in an aging world. The ratio of workers to retired people everywhere on earth is going to go up, inexorably, for decades to come. There are two ways to finance retirement security under these conditions – retire later in life, and increase worker productivity through innovation. CalPERS and CalSTERS are not going to game the system and escape this reality because they are too big. If the twelve factors just noted that are hampering economic recovery are addressed, productivity will accelerate its upward march, and everyone can enjoy a secure retirement. But today CalPERS and CalSTERS, because of the unrealistic projections they make and the impossible demands those projections enable, are part of the problem.

For these reasons, the chances we’re going to see inflation-adjusted 4.75% annual rates of return on trillion dollar investments are about as likely as Sauron deciding he’ll stop catapulting the heads of captured knights over the walls into the citadel of Gondor, and instead will instruct his armies of Orcs to plant flowers and learn how to play soccer. But if the fantasy saga of Middle Earth dealt in harsh realities, the actuaries at CalPERS are apparently still drinking beer under the party tree in Hobbiton.

To verify this, earlier this week I checked with an official at CalPERS to ask him whether or not they were going to lower their earnings projections. This is what he wrote in reply:

“These were only rumors that were circulating.  Every three years the CalPERS Board reviews the asset allocation and only if they elected to change to a much more conservative asset mix would there be a change in assumption.”

This is an illuminating response, because it suggests CalPERS is still holding off on lowering their real (inflation adjusted) long-term projected return, which currently is 4.75% per year, and also because it suggests they have not moved their assets to a “much more conservative” mix of investments. This is consistent with a March 9th 2010 report by Leo Kolivakis, in his post entitled “Public Pension Funds Doubling Up to Catch Up,“ where he wrote:

“So what are public pension funds doing? Cranking up the risk, investing in failed banks, leveraging up, shoving more money in private equity and hedge funds, whatever it takes to achieve that insane 8% average annual return they’re all still fixated on.”

So how much will Whitman’s reforms matter if CalPERS can only earn 3.0% on their funds – after inflation? In the table below the same results are reported, based on a 3.0% real rate of return.

When you use a rate of return of 3.0%, the estimated annual pension cost for California’s state and local non-safety employees is not $19.7 billion per year, as it would be using a rate of 4.75%, but $33.1 billion per year, nearly twice as much. It is difficult to overstate the financial impact of lowering this projected rate of return. This is best case, by the way, because these figures were calculated under the assumption that pension assets are fully funded today, and it also assumes the age of workers in California’s state and local governments are evenly distributed between those entering the workforce and those about to retire. In reality, California’s public employee pension funds are already underfunded and have to play catch-up, and the workforce is skewed towards a disproportionate number of workers who are nearing retirement. For these reasons, if you go with a 3.0% rate of return, the $33.1 billion annual cost is still understated. And nowhere in this analysis are the costs considered for state and local employees engaged in public safety. They comprise 13% of California’s state and local public sector workforce, and their retirement packages are significantly more generous than the non-safety employee packages discussed here.

The solution to California’s deficits is not to raise taxes. As housing prices shot upwards at a rate far exceeding inflation over the past 20 years, revenues from property taxes rose accordingly. Government tax revenues in California, from corporate taxes, individual income taxes, property taxes, sales taxes, and countless fees, total about $400 billion per year. This is plenty of money to run our state and local governments, if public employee pay and benefits are scaled back by about 20% across the board. For more, read “California’s Personnel Costs.” The benefits to the state’s economy would be immediate and profound.

If you want to know which California Gubernatorial candidate is most likely to make that prescription, flip a coin.

The Climate Money Trail

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One of the most lucid recent commentaries that addresses the question of climate politics and money is by Australia’s Joanne Nova, who posted “The Money Trail” on March 4th. As we wonder again whether the consensus of scientists regarding climate change – if there ever was such a thing – is now unraveling in the wake of climategate, glaciergate, amazongate, methanegate, etc., it is important to also take another look at the money trail.

My own position on climate change has been consistent for many years. Back in 1995, when I launched www.ecoworld.com, I was determined, among other things, to present both sides of the climate change debate. A post from 2008 entitled “Environmentalist Priorities and the Global Warming Scare” offers links to dozens of reports EcoWorld published on the issue of climate change. These reports provide ample references to primary sources of data, and document a growing conviction that anthropogenic CO2 emissions have little to do with any recent climate change, that predictions of impending catastrophic climate events are improbable, and that the cure is worse than the disease. But what about following the money?

A June 2009 CIV FI post entitled “The Climate Alarm Industry” lists several reasons why it is ludicrous to accuse climate skeptics of being motivated by financial incentives, when the financial incentives to be a climate alarmist are several orders of magnitude greater:

Financial incentives to promote anthropogenic CO2 as a dangerous pollutant:

– Insurance companies charge higher premiums
– Fossil fuel companies keep prices (and profits) high
– Politicians enact new taxes
– Public sector entities get new taxes to fund their pensions
– Environmental organizations get more funds
– Left wing activists get a new basis to attack private ownership
– More public sector funded jobs are created
– Lawyers have a new basis to file lawsuits
– CPA firms begin to audit carbon accounting
– Wall street gets to trade emissions credits
– Climate researchers get more grant requests funded
– United Nations bureaucrats get a guaranteed revenue stream

Before quoting some of Joanne Nova’s astute observations on this same topic, here are three articles by Dr. Richard Lindzen, a professor of atmospheric science at MIT who is one of the most credible climate skeptics in the world. These articles are interesting both because they summarize and debunk many of the scientific arguments in favor of climate alarm, but also because they document in great detail the politicization of the academic community in favor of alarm. Read “Is There a Basis for Global Warming Alarm,” “Climate Science – Is it Currently Designed to Answer Questions,” and “Why Global Warming is Unlikely to be a Safe Area for Investment.”

In “The Money Trail,” Nova quantifies some of the financial incentives motivating climate alarm. Consider these points:

“The US government spent $79 billion on climate research and technology since 1989 – to be sure, this funding paid for things like satellites and studies, but it’s 3,500 times as much as anything offered to sceptics. It buys a bandwagon of support, a repetitive rain of press releases, and includes PR departments of institutions like NOAA, NASA, the Climate Change Science Program and the Climate Change Technology Program. The $79 billion figure does not include money from other western governments, private industry, and is not adjusted for inflation.”

“What the US Government has paid to one side of the scientific process pales in comparison with carbon trading. According to the World Bank, turnover of carbon trading reached $126 billion in 2008. PointCarbon estimates trading in 2009 was about $130 billion. This is turnover, not specifically profits, but each year the money market turnover eclipses the science funding over 20 years.”

“Commissioner Bart Chilton, head of the energy and environmental markets advisory committee of the Commodity Futures Trading Commission (CFTC), has predicted that within five years a carbon market would dwarf any of the markets his agency currently regulates: “I can see carbon trading being a $2 trillion market.” “The largest commodity market in the world.” He ought to know.”

“Unpaid skeptics are not just taking on scientists who conveniently secure grants and junkets for pursuing one theory, they also conflict with potential profits of Goldman Sachs, JP Morgan, BNP Paribas, Deutsche Bank, HSBC, Barclays, Morgan Stanley, and every other financial institution or corporation that stands to profit like the Chicago Climate Exchange, European Climate Exchange, PointCarbon, IdeaCarbon (and the list goes on… ) as well as against government bureaucracies like the IPCC and multiple departments of Climate Change.”

Joanne Nova, like any responsible skeptic, has done her homework. Here is her take on the actual science of climate change:

“And as far as evidence goes, surprisingly, I agree with the IPCC that carbon dioxide warms the planet. But few realize that the IPCC relies on feedback factors like humidity and clouds causing a major amplification of the minor CO2 effect and that this amplification simply isn’t there. Hundreds of thousands of radiosonde measurements failed to find the pattern of upper trophospheric heating the models predicted, (and neither Santer 2008 with his expanding “uncertainties” nor Sherwood 2008 with his wind gauges change that). Two other independent empirical observations indicate that the warming due to CO2 is halved by changes in the atmosphere, not amplified. [Spencer 2007, Lindzen 2009, see also Spencer 2008]. Without this amplification from water vapor or clouds the infamous “3.5 degrees of warming” collapses to just a half a degree — most of which has happened.”

With a citizen’s initiative entitled the “California Jobs Act” currently working its way onto the November 2010 ballot that will suspend implementation of California’s “Global Warming Act,” it will be interesting to see what arguments the opponents of suspension will muster. Will they accuse skeptics of being “flat-earthers,” or call them even worse names? They would be better advised to rejoin the scientific debate, if they value their credibility. Will they accuse the skeptics of “following the money?” Because in that regard they will be making a terrible mistake. The bigger money trail is not hard to see – and is yet another example of Wall Street collusion with big government. To wrap up, here is Joanne Nova’s take on the attacks made on climate skeptics:

“The starkly lop-sided nature of the funding means we’d be fools not to pay very close attention to the evidence. It also shows how vapid the claims are from those who try to smear skeptics and who mistakenly think ad hominem arguments are worth making.”

No Profits, No Pensions

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California Gubernatorial candidate Jerry Brown knows he’s in a fight. His presumptive Republican opponent, Meg Whitman, not only is doing a good job presenting herself as a socially moderate, fiscally conservative candidate, but she has abundant personal wealth she can tap in order to finance her campaign. So Jerry Brown has to turn to the only reliable source of campaign cash out there, the public employee unions.

In Joel Fox’s report of March 22nd entitled “Brown Embraces the Public Unions,” Fox quotes Brown as saying “California’s fiscal problems are not the unions’ fault but that of Wall Street and corporations.” Get ready for a campaign season filled with more bashing of corporations. And here are some reasons why this rhetoric is absurd, nihilistic, corrosive, deceptive, utterly bankrupt, and at least to-date, tragically effective:

Public sector unions are by far the most powerful source of campaign cash in California. They can pretty much spend as much as they want to make sure their candidates get elected, and their opponents are defeated. Without these unions, Jerry Brown wouldn’t have a chance against Meg Whitman. But is Brown only singing the union song in order to get their financial support? After all, in late February 2010, in a closed meeting with a group of California business leaders, Brown admitted the single greatest mistake he made as Governor back in the 1970’s was his decision to sign legislation allowing public sector workers to unionize.

Public sector unions have successfully convinced Californians that Wall Street and corporations are basically to blame for all the problems in our society – from deficits to poverty, from bad public policies to social injustice. But public sector unions are in bed with Wall Street. In the United States, there is no source of new investment capital bigger than public employee pension funds – most of it flowing through Wall Street brokerages. The public sector unions, through their pension funds and through the state and municipal governments – which they control – worked with Wall Street and enabled Wall Street. It was Wall Street who packaged the investments that public pension funds purchased – and it was Wall Street and the public sector unions who, more than anyone, wanted to believe they could earn 8.0% annual returns forever.

That’s not all. In 2006, California’s legislature, controlled by public employees, enacted AB32, California’s “Global Warming Act.” Already, agencies and utilities throughout California are tacking “global warming mitigation” fees into their billings. And in less than two years, when AB32 takes full effect and California starts auctioning tradeable CO2 emission allowances, it is Wall Street firms who will broker these CO2 allowances, and it is Wall Street who will package all the CO2 “offset” prospectuses. Read the “scoping plan” from CARB, which lays out how AB32 will be implemented. You will learn how CO2 “offset projects” – which will receive the proceeds of the CO2 emission allowance auctions – will earn reimbursements by how much they reduce CO2 emissions. For example, by mandating even more draconian high-density than we already endure here in California, municipalities will be able to calculate the emissions they have saved relative to “sprawl,” and collect annual reimbursements. Pet projects that create jobs at taxpayers expense for union workers, such as light rail, will go in regardless of practicality, and also receive carbon offset funds calculated on the basis of their potential to reduce CO2 emissions. California’s global warming act, which will do nothing to address alleged global warming, is a scheme, hatched by public sector bureaucrats to transfer more money from taxpayers into the government. And Wall Street will stage-manage the entire process – making billions in fees.

When Jerry Brown, on behalf of public sector unions, demonizes Wall Street, he’s being a blatant hypocrite, but at least he has a point. In the case of industrial corporations who want to employ people and build actual products, however, Brown and the public sector unions have no point. According to Brown and the unions, if only corporations would behave themselves and pay their “fair share,” all of our problems would disappear. Where is the logical end-point of this nonsense? The last politician to tell the truth about taxes and corporations probably was Ronald Reagan, who correctly pointed out “corporations don’t pay taxes, because they pass the taxes through to the consumer as a cost – ultimately it is individuals who pay taxes.” The public sector union’s answer to this truth, observed by Reagan and confirmed by history, is for government to simply reduce corporate “profits.” If the corporations were forced to make less in profit, supposedly they could afford to pay higher taxes AND charge a fair price to consumers for their products. But profits are the life-blood of economic growth and wealth creation. Without profits, there is no reinvestment in equipment and upgrades, no research and new product development, no new job creation, no dividends to shareholders, and no stock appreciation which provides the return to public employee pension funds. No profits, no pensions. And in any event, corporations in California are beat down, intimidated by public sector unions and environmentalist attorneys, reeling from the effects of recession and the impact of excessive, punitive regulations. California’s business community has been practicing appeasement with the public sector unions and environmentalist attorneys for years – they cower like Théoden, King of Rohan, wasting away, corrupted by fear, waiting for Gandalf and Aragorn to awaken him before all is lost. But we live in California, not Middle Earth.

What public sector unions ought to know, and cannot admit, is that tax revenues they collect and allocate, especially through public pension fund investments, are the engine that fuels Wall Street, and they are as responsible as anyone else in this economy for the excesses and abuse of the financial sector in America. What they also should know, as they watch their pension funds crumble, is the fiscal policies they have forced onto compliant politicians are unsustainable and are cannibalizing the wealth of the country. To distract voters from this financial fact: that California’s public sector bureaucrats, on average, now make 50% more in base pay, 100% more in current benefits, and 200% more in retirement security – compared to the taxpayers who now serve them and pay for this hideous inequity – public sector unions and the candidates they control must preach the politics of resentment and envy, hatred of wealth and environmental panic, corporate demonizing and phony Wall Street bashing. They must brainwash our children in their union-dominated public schools, and bamboozle our electorate through their massive campaign advertising, so they can continue to feed for a few more years on the ailing carcass of what was once the greatest free-market economy in the history of the world.

For more on public sector unions and government solvency in California, read:

The Razor’s Edge – Inflation vs. Deflation, March 15th , 2010

Pension Rhetoric vs. Pension Reality, February 24th, 2010

California’s Union Ballot Initiatives, February 18th, 2010

Sustainable Pension Fund Returns, February 2nd, 2010

California’s Personnel Costs, January 24th, 2010

Maintaining Pensions Solvency, January 9th, 2010

Real Rates of Return, June 26th, 2009

The Razor’s Edge – Inflation vs. Deflation

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Deficit spending has been touted as a potential driver of inflation, because only with devalued (inflated) currency can we hope to erode the real value of our mounting levels of government debt. Continuing to print U.S. dollars, it is claimed, can only lead to too many dollars in the system, and hence a devalued dollar. We should be so lucky.

A few years ago, in Sept. 2007, in a post entitled “Inflation vs. Deflation,” I cited a recent (at the time) quote from Paul Kasriel, an economist with The Northern Trust Co. in Chicago. He explained the danger of deflation quite well, describing what happened in Japan:

“Japan experienced a deflation in recent years because the bursting of its asset-price bubble in the early 1990s created huge losses in its banking system. The Japanese banks had financed the asset-price bubble. When it burst, the debtors could not keep current on their loans to the banks and therefore were forced to turn back the collateral to the banks. The market value of the collateral, of course, was less than the amount of the loans outstanding, thereby inflicting huge losses of capital to the Japanese banks. With the decline in bank capital, the Japanese banks could not extend new credit to the private sector even though the Bank of Japan was offering credit to the banks at very low nominal rates of interest.”

Another way to put this is as follows: Liquidity is a function of two factors, money supply and collateral. But the impact of available collateral is far more critical to maintaining liquidity than the money supply. Let’s suppose the entire privately held asset base of the United States is 25 times GDP – it’s probably worth much more than that, but let’s use these multiples – this suggests that the total private collateral in the U.S. is worth nearly 400 trillion dollars. On the other hand, let’s suppose the combined deficit spending – otherwise known as “stimulus” spending – in the U.S. is 10 trillion dollars per year – it’s much less than that, at least so far. Yet this 10 trillion dollars, in terms of liquidity, is a mere trickle compared to the value of the collateral, which is the basis of credit lending. What happens if entire sectors, such as the housing sector, decline in value by 50% or more? What if the entire asset base of the U.S. declined by 50%? Can a ten trillion dollar annual trickle of newly minted dollars make up for a decline in the borrowing base (the asset base) of 200 trillion dollars? No chance. This is what happened in Japan in the 1990s, this is what happened in the United States in the 1930s, and this is the specter we face today. Deflation is the devastating scenario that every fiscal and monetary policymaker in the United States is doing everything they can to avert. Inflation would be a cake-walk by comparison.

To further understand why deflation looms as a greater threat to the U.S. economy than inflation, consider what additional bubbles still remain in the U.S. economy. Two huge sectors come immediately to mind – the municipal bond market, and the commercial real estate market. Municipal bonds are at risk of default because public entities, nearly everywhere in United States, are on the verge of bankruptcy. The reason they teeter on the edge of bankruptcy is because these public entities have negotiated pension and compensation plans for public sector workers that are far more generous than anything available to ordinary workers or professionals in the private sector, and these inordinately expensive personnel costs have now far outstripped the willingness or the capacity of taxpayers to pay through even higher taxes. Barring dramatic and immediate reforms – lowering compensation and benefits in order to eliminate these deficits – municipal entities in much of the United States are on a collision course with bankruptcy. If they default on their bond payments, the value of municipal bonds will collapse. Meanwhile, investment has been pouring into bonds as the returns on equities have corrected. The bond market in general, and the municipal bond market in particular, is a massive asset bubble that is on the verge of bursting.

The commercial real estate market is in similar danger. Currently landlords are enduring high vacancies but are, in general, refraining from releasing space at lower rates. They know that if they lower leasing rates for their space, this will cause the value of their commercial property to be reassessed, reducing the amount of collateral their property will support. This reduction, in turn, will trigger calls for principal reduction payments by banks who service the mortgages on these properties, since lowered property values can put property owners into default on their loan covenants. A similar situation already exists with residential properties, except in this case instead of tolerating vacancies to keep rates high, banks are holding foreclosed properties to avoid flooding the market which would cause the price of residential real estate to drop even further. It is difficult to overstate the threat of deflationary impacts if any these precarious situations snowball, once a breach occurs.

Another potential bubble of staggering magnitude is the public employee pension funds. It is ironic, that public sector unions, who pretty much control the messaging in elections (which they buy, using taxpayer’s money), in our public schools, and through their supporters in the media, have taught the gullible among us to loath capitalism, resent private wealth, and vilify Wall Street, yet their public employee pension funds are now engaging in perhaps the most irresponsible example of casino capitalism yet. Rather than support reducing the bloated pension benefits they are currently obligated to fund, and rather than accept a conservative real rate of return on their investment portfolio of 3.0% per year, the public employee pension funds are engaging in investment activity that is riskier than ever in a desperate attempt to reflate their asset base. Read this from Pension Pulse’s Leo Kolivakis, written on March 9th, 2010, in a post entitled “Public Pension Funds Doubling Up to Catch Up“:

“Private pensions are in no mood to crank up the risk, but public pension funds are back to business as usual, and even looking to leverage up to obtain their magic 8%. Many public plans are still sticking to the motto that more private market assets will lead them out of their troubles. They’re in for a nasty surprise. Last January, I wrote that the alternatives nightmare continues, and I don’t see it getting much better. In fact, as mighty endowment funds like the Harvard Management Company look to unload real estate and other private equity holdings, private markets will likely suffer a long drought, especially since public markets are not going to deliver anything close to what they delivered in the last 30 years. So what are public pension funds doing? Cranking up the risk, investing in failed banks, leveraging up, shoving more money in private equity and hedge funds, whatever it takes to achieve that insane 8% average annual return they’re all still fixated on.”

Bonds, real estate, and pension funds, ultimately, are all collateral – the primary engine of liquidity. Over the long-term, the only way to stabilize the value of collateral is to establish a sustainable positive cash flow. When the financial history of early 21st century America is written, it is interesting to wonder how historians will characterize the behavior of public sector unions, who were indifferent to deficits, who were incestuous with Wall Street, who rode the waves of unsustainable debt and deficit-fueled phony booms to guarantee their members would enjoy magnificent benefits calibrated on bubble values, but contracted to endure even after the bubbles burst. Will the refusal of all-powerful public sector unions to embrace fiscal reform be seen by future historians as contributing to the collapse of the bond markets, the pension funds – and under the burden of new taxes instead of reform, property values, as the nation’s collateral imploded? At the least, it is fair to say that what today’s leadership of public sector unions decide – whether they embrace concessions for the sake of the nation, or not – is one of the biggest opportunities remaining to avert further financial calamities.

Nonpartisan Healthcare Legislation

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This phrase, “nonpartisan healthcare legislation,” is an oxymoron, unfortunately, but let’s try. And in the interests of full disclosure, my preference is to see private institutions continue to bear the primary responsibility for providing healthcare in America. So rather than moving healthcare into government-run programs, the primary goal of healthcare legislation should be to rewrite the regulations that govern healthcare. The marketplace can deliver healthcare more efficiently than the government, providing more quality healthcare to more people for less money – but to do this in an equitable manner, good regulations are essential. An earlier post, “Healthcare in America” listed some of these ideas – this post is to elaborate on those and add a few ideas that aren’t getting the discussion they deserve:

(1)  Allow individuals the same tax deductions for their health insurance premium payments as businesses receive. No special breaks or special fees, no ceilings or floors on eligibility for the deduction, nothing. Whatever an individual or an employer spends for healthcare is deductible, and whatever healthcare benefits an individual receives are not taxable.

(2)  Make it easier for associations and organizations to offer group health insurance plans, instead of only favoring companies who may or may not provide an individual a job for life. This is the only realistic way individuals who have the financial means to purchase quality healthcare, but don’t work for a company that has a group plan, to ensure their health insurance won’t be canceled if they get sick.

(3)  Eliminate interstate barriers to health insurance companies so they can operate and compete in every state. This is certain to lower costs – it will increase competition and favor companies who have lower overhead. At the same time, abolish the exemption health insurance companies currently have from anti-trust laws.

(4)  Enact tort reform so malpractice lawsuits are reined in. Not only do the inordinately inflated malpractice insurance premium payments charged to doctors increase overall costs, but even more significant are the costs of over-testing and over-treating as a precaution against lawsuits.

(5)  Enforce right-to-work laws in the healthcare industry nationwide. De-unionize healthcare workers. Or reinvent unions to restore the meritocracy to the workplace and allow management to manage. It isn’t the over-market wages that are the biggest problem with unions – this is something union advocates should appreciate more. Union reformers are equally concerned with the cost of benefits and the work rules. These benefits can cost, when you take into account current benefits plus future retirement benefits – literally more than the actual wages. The irony is that these benefits would cost less if healthcare regulations, and the regulatory environment for all essentials – healthcare, water, land, mineral resources, energy – were optimized to promote development and competition. And when you have a unionized health industry workforce, even more costly than the over-market wages and benefits are the work rules – resistance to more efficient procedures, resistance to reducing headcount, resistance to promotions based on merit instead of seniority, inability to fire incompetent workers, and credentialism, which requires hiring overqualified, overeducated (and hence overpaid) medical staff. These indirect costs are staggering and synergistic. Credentialism, for example, is the union’s answer to the meritocracy, by replacing job performance with credentials as criteria for advancement. Credentialism also creates artificial scarcity, since competent personnel who would respond well to on-the-job training and become exemplary medical technicians and nurse practitioners, are excluded because they lack the requisite degree. This is all a consequence of unions. Labor unions and healthcare do not mix well, if you want to provide quality heathcare to more people at a reasonable cost.

(6)  Require health insurance companies to make one simple disclosure in their pricing schedules, updated every twelve months: “During the most recent fiscal year, our company spent X percent of our total revenues paying claims directly to healthcare providers.” This simple disclosure would add a critical variable to aid in consumer evaluation of every health insurance company in America – because the higher this percentage, the more likely this company would be pricing its health insurance at competitive rates.

(7)  Create a privately administered fund that would insure the insurers to cover pre-existing conditions. Just as plans for seniors such as Medicare Advantage cover the gap between what Medicare pays and what a procedure may actually cost, this fund, which insurance companies would all pay premiums into, would cover the difference between what they would charge a healthy new entrant to their plan and what the premium would be if they were evaluated based on their preexisting condition. Depending on how the rollout of association-based health insurance companies is implemented, this fund might not even be necessary, since group plans are generally prohibited from banning coverage to new applicants with pre-existing conditions. But having a super-fund of this manner could also provide another tier of coverage beyond policy limits, enabling insurers to provide another option for consumers who wish to purchase the ultimate in health care.

(8)  Streamline the approval process for new drugs. In general, the rest of the world adopts drugs, often developed in the U.S., years before the same drugs are approved for use here.

(9)  Recognize we are going to need a multi-tiered system of healthcare in America. Rather than forcing everyone to purchase healthcare, by instead enacting tort reform, allowing interstate competition, and de-unionizing the medical profession, free clinics and quality emergency room care will again be affordable institutions that can be supported through private philanthropy and government grants. This is where people who can’t afford healthcare will get their medical treatment. People of modest means who want better healthcare than this can – either through their employer or through associations they can join – purchase existing HMO coverage, or if they consider healthcare to be a huge priority for their families, they will purchase existing PPO coverage. We don’t have to reinvent the entire industry to get decent healthcare for everyone in America, but we do have to accept that someone who is willing to pay premiums totaling $12,000 per year for their health insurance is going to get access to more medical options than someone who whose gross income is $12,000 per year.

Implementing these nine suggestions would bring down the cost of healthcare at the same time as preserving choice and quality. Something that isn’t acknowledged enough is that proponents of healthcare reform all want the same goals – they want America’s healthcare system to remain solvent and continue to offer more quality healthcare to more people. It shouldn’t surprise anyone that the costs of healthcare continue to go up – every year we can cure more ailments! There is a cost to this ongoing improvement. But by properly regulating a free marketplace, we can have the best of all possible worlds.

The most tragic consequence of all this inaction is there isn’t even incremental reform. Any one of these nine suggestions should be on the table. Some of them probably could get voted into law right now, and perhaps should, one at a time. But in the heat of partisan battle, and in the desire to do everything at once, nothing gets done.