Viewpoints

Profiteers and Politicians: Two Groups That Need to Clean Up Their Acts

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his article originally appeared in Pensions & Investments online on 18 December 2012.

After exchanging pleasantries with the driver taking me to the airport to leave New York, I asked her how she was affected by Super Storm Sandy. Thankfully, she fared better than many of her neighbors. Her Queens home was virtually untouched, and she lost power for less than a day. But the gas shortages were a different matter.

On the third day after the storm’s landfall, it was time for my driver to get back to work, but gasoline was scarce and most service stations around her were out. She heard from a friend someone was selling gasoline in five-gallon gas cans out of the back of a van, so she tracked down this opportunist’s cell phone. His asking price: $125. $25 a gallon!!! Absurd! Price gouging! Criminal! She hung up the phone.

Then she thought about her alternatives. Stay home with an empty gas tank and earn nothing and be largely unable to help her less fortunate neighbors in need of transportation. She called back and offered him $100. Done. She then got the five gallons, called her dispatcher to find a fare from JFK to Connecticut and then filled up her tank there after dropping off a thankful customer happy to be home after experiencing his own storm-related transportation woes. Put in economic terms, she was able to work for about $75 or $80 of price gouging. If she had gone to one of the few stations with gas she could maybe get to on fumes, she would have had to waste six to eight hours in line to maybe get gas. Opportunity cost: two to three fares at least.

What about our black marketeer in the van? He was driving back and forth to Pennsylvania where gasoline was plentiful, lining up deliveries on his cell phone continuously, and probably working 16 to 18 hours a day. He may well have cleared more than the median annual household income in the two weeks his “arbitrage” existed. Enterprising entrepreneur? Absolutely. Criminal? Almost certainly. While I cannot say for certain which state and federal laws his all-cash business violated, I’d lay good odds that his 2012 Form1040 and New York tax returns will offer less than full disclosure of his income – if he files at all. However, I would also bet that the economic and social gain created by his customers’ mobility and activity dwarfed the loss to the coffers of the U.S. and New York Treasuries.

I was struck by parallels between this occurrence and “smurfing,” described in a recent article in The Economist as smuggling of black market cigarettes to “arbitrage” the difference in taxes between high-tax New York where smokers are ostracized, and low-tax Virginia, home of America’s tobacco producers. The primary difference being that one opportunity was temporary – on leaving NYC, I noted that posted gasoline prices had returned to roughly the same levels as they had been pre-Sandy (and about 20 cents to 30 cents per gallon cheaper than in Orange County, Calif., where I live) – but the large discrepancies in cigarette taxes would endure. And endure as a catalyst to criminal activity.

While both activities are probably illegal, there may well be a spectrum of views among us on just how immoral or unethical each activity is. At one end of the spectrum, some liberals would see both activities as clearly wrong and hold that both of the black marketers described above should be apprehended and prosecuted to the fullest extent of the law. Extreme free market libertarians might say the regulation is unjust and root for both sets of entrepreneurs against the tyranny of government.

Interestingly, in the small sample I shared these two stories with, there was disagreement about which of the two groups is more reprehensible. Some saw the smurfers as more heinous criminals because there is long-standing law against smuggling and avoiding taxation, and smurfing is one aspect of large scale organized crime. Others called out the gas runners as the greater scofflaws as they were benefiting from the misery of a wider audience who in normal course would be purchasing a commodity without social stigma; this group also professed a belief in the need for a regulated, orderly market.

The nature of these disparate views is instructive when viewed against the drone of rhetoric and commentary coming out of Washington on the fiscal cliff. First, there is a certain sense of a historical irony around the fact the two states in question in the smurfing story – New York and Virginia – were the homes to the principal parties debating how to deal with debts of the American Revolution. The Federalists, led by Hamilton of New York, argued for the sanctity of the debt incurred by the then colonies, now states, and that it should be absorbed and backed by the federal government. The Republican, Jefferson of Virginia, favored a weak central government and would have vested more power and responsibility at the state and individual level. Sound familiar? 

Between members of Congress and President Obama there are 536 different opinions when questions arise about the role and scope of government services – what a fair tax burden on the top 1% is; which tax expenditures should stay, and which should be cut; whether we have a spending problem or a revenue problem; and many more considerations all factoring into the fiscal cliff.

Washington could learn two important lessons from our economic vignettes:

  1. While there may indeed be 536 shades of gray, or even if there are just two, dogmatically insisting that your blend of black and white is the right one will get us nowhere and will create economic damage. Our representatives in Washington need to find some single shade of gray that is equally unpalatable and live with it. Soon. Inaction other than bloviating and preening before television cameras creates inactivity that leads to rust on the wheels of legitimate commerce.
     
  2. Whatever the regulatory and tax code changes are that our government ultimately hands down, enterprising Americans will adjust to take advantage of opportunities, loopholes and inconsistencies. Some of this will create broad economic good. But poorly thought through and constructed legislation will yield winners and losers. Some of the winners will win legally; others will do so outside the rules. If there is enough incentive to do so in an extra-legal manner, some willing to take the risk will win big at the expense of the broader populace. That is the nature of the beast whether we think it fair or otherwise. The more we try to make things “more fair” without inflicting some measure of pain on all parties, the more likely it is that the results will end up being less fair. Call it the law of unintended consequences.

Those that recall their American history will remember that Hamilton got his way on the debt. But it came at a cost: Part of what was exchanged for agreement on the debt was the location of our Capitol. No longer was it to be in New York, but rather in a new city closer to Virginia – Washington, D.C. 

The powers that be in Washington need to take a lesson from our founding fathers, and the true leaders seen since. True leadership is not about winning at all costs, or taking your ball and going home. True leadership is about shared sacrifice, compromise and sometimes living with some things you find abhorrent.

The Author

James Moore

Product Manager, Head of Investment Solutions

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Disclosures

This material contains the opinions of the author but not necessarily those of PIMCO and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. This material was reprinted with permission of Pensions & Investments. Date of original publication December 20, 2012.