Funding the Stimulus

There's been a suggestion that the stimulus package is funded by the folks at the top of the socioeconomic pyramid. The chart is based on the apparent assumption that the existing distribution of income tax rates across the population of U.S. households will be used to fund the stimulus in the year it is spent. A little thought is in order.

Since income taxes are taxes on "income" one needs to make sure stimulus efforts and their associated burdens don't impair those who would pay these taxes -- which will be presumably paid from future earnings -- or the thing is a bust.

On the other hand, my understanding is that Obama expects years of trillion-plus-dollar federal budget deficits, which means funding by borrowing the money (or printing it) instead of charging it to present-day taxpayers. (The assumption that the stimulus would cause an increase atop existing taxes would, in fact, change all the tax rates of everyone in the chart in the first link.) This essentially means the present-day taxpayer households in the chart don't pay the expenses of the stimulus. The stimulus is funded by some future sucker-taxpayer who will face it plus accumulated interest. And it'll be paid back years in the future, during which time more annual deficit will be mounting. The value of the dollar might be rather different by the time this $850B or so comes due.

This thing -- the stimulus package -- is a gamble on the capacity of Americans to make lemonade from lemons while the sun is shining on the hay fields, or something of the sort. There's no specific plan to create taxable profits to fund the stimulus package, there's just a plan to create economic activity in the expectation that Americans will find ways to create long chains of people earning income in the process. Assuming the funds are spent on things involving labor, design, research, and local fabrication, there's a high probability that the funds will indeed circulate in the local economy, leading to numerous serial points of (taxable) profit. To the extent we spend funds on imported raw materials (e.g., fuels) or imported finished goods (vehicles, televisions), we lose the chance of multiple local serial profiteers.

The key seems to be encouragement of spending on things that are hard to outsource. Toward that end, local construction and energy development infrastructure (and associated engineering, architecture, construction, and other service expenses) seem a pretty good bet.

The interesting thing about long chains of serial profiteers is that they don't get smaller and smaller. The little earners, who profit little, spend most of their small incomes on things like food, shelter, and utilities -- recycling the funds back toward the top of the pyramid and enabling the support of more downstream profit-makers. Dividend recipients, new-added employees, capital gains earners, re-employed home remodelers -- all will benefit from these little guys' expenses and will in turn spend the money again.

The question is how long we can keep the expenditures local before they disappear from the taxable pot to Venezuela, China, and other places we'd rather not fund.

This isn't a one-line calculation, and it doesn't fall neatly into a small table. The impact of a trillion-dollar stimulus package is a complex web of calculations that depend in part on the capacity of Americans to satisfy the demands of Americans. Domestic energy production is an example of a way to invest for the future in the capability of Americans to satisfy the demands of Americans, and to create more domestic benefit from each domestic dollar spent.

The whole thing may not be a work of genius, but it's certainly not the laughable folly some urge. At base, it's a bet on the long-term ability of Americans to make money, and that's a bet with some astute investors' money behind it.

Modest Marginal Demand/Supply Changes Cause Big Price Changes

The demand for petroleum in the world hasn't dropped over fifty percent in the last several months, but the price has. Once over $150 a barrel, oil recently traded under $70.

The price of a barrel of oil at a given moment isn't determined by some economic calculation predicting its downstream economic impact, but by the demand that exists for the last barrel offered for sale. The marginal demand -- that is, the hunger for that last barrel offered for sale -- is what sets prices. Trucking companies are going to deliver food across America regardless what happens on Wall Street. Commuters will get to work, and children will motor to school. Power plants will keep making power, and home heating units will keep heating homes. Most of the demand continues.

However, when drivers are inclined to make fewer (and fewer) discretionary trips, those unburned gallons of fuel begin to dampen demand for petroleum being pumped worldwide at sellers' best possible speed. The American decrease in driving -- over fifty billion fewer miles driven since last year -- mostly impacts gasoline demand (explaining in part, perhaps, why Diesel remains relatively costly). But it definitely impacts what people will bid on yet another barrel of oil offered for sale at a given moment.

The balance of marginal demand against marginal supply is the reason d'être for market-manipulating schemes like the Organization of Petroleum Exporting Countries (OPEC), which tries to keep prices high by limiting production. (The fact that production is limited because of terrorist attacks on production facilities in the Middle East, and incompetent management in Venezuela, and not in fact orders from OPEC bosses -- and that the producers are largely incapable of producing any faster than they presently produce -- is an entertaining observation about the organization's current utility, but says nothing about the reality of producers' ability to manipulate prices if they did agree to limit production.) Artificially manipulating supply to game pricing in the face of a relatively constant demand is attractive if cooperation is available among suppliers.

The reason that markets for goods "work" in the sense of producing "rational" prices is that, in the absence of manipulation, supply and demand check each other: if demand falls enough, the marginal cost of production will make further production a bad bet, and production will fall. Equillibrium is restored not by economic modeling of the intrinsic value of the goods for sale, or predictions about the goods' utility, but by the simple action of supply and demand "responding" to one another through the self-interested business decisions of market participants.

This doesn't mean that markets "work" all the time, though: where manipulation exists on either side of the equation, prices will move to wherever the market plus the manipulation cause marginal transactions to be priced. The ability of vendors of intangible goods on securities markets to "sell" securities without ever delivering them, with no cost of production, ensures manipulative pricing will continue until the law is enforced. The law, of course, is that securities sold in the marketplace must be delivered to the buyers. This, of course, isn't enforced, or lists like this would be very short and would not have the same securities on them month after month. It's not like the exchanges keep these lists secret.

The fact that a slight depression in demand can cause petroleum prices to drop by over half in the space of a few months offers us some insight into the scale of the value destruction potentially at work in marketplaces in which sellers artifially inflate supply by enjoying freedom from any actual requirement to deliver the things they are selling. By mopping up genuine marketplace demand with bogus sales that never result in the delivery of securities, bad-faith sellers who don't own the securities and make no effort to obtain them even by borrowing them can have a significant impact in the markets for some securities.

Securities like Sears Holdings, which last month was short-sold for over 55% of the stock's entire float, remains vastly manipulated with "only" 40% of its float short-sold. Imagine someone added 56.81% to the world supply of collectible automobiles overnight -- production runs of 100 cars now suddenly have 155 specimens on offer, for example. Exactly what, do you imagine, would happen to the price of the next one offered for sale? It's not like the holders of those extra 56.81% of Sears Holdings will ever get to vote -- the company can't count votes for more than 100% of the outstanding shares -- it's hard to see what a buyer of a non-delivered security gets, other than the possibility of becoming the next seller to fail to deliver. It's a fraud.

In the case of OPEC, where supply is (in theory) constrained by cooperation, the supply manipulation is geniune even if it's not the natural behavior for individual market participants (a fact that explains why historically, OPEC members routinely produced over-quota). In the case of naked shorting, it's illusory supply added to a market whose buyers can't know -- because their intermediaries conceal the sellers from the buyers -- that they are being cheated. In the end, it's the market as a whole that is cheated, by destroying the price on which participants are encouraged to rely as the "correct" price for a particular security on a particular day. In the case of a short-oversold stock, it's a price that makes holding look like a loser's game, and drives out investors in favor of a security that displays a more optimistic price.

Americans Finally Driving Less

Whether due to politics or fuel prices, Americans cut their driving billions of miles last May compared to the prior May. And there are millions more Americans doing this driving.