There is one thing that I have learned about politics: when the political ruling class is in a big lather about something and screaming loudly for retribution and action, that means the real action is taking place elsewhere, in secret, and that all the fuss is to distract attention from the real scandal. This rule of thumb has never failed me, although sometimes it takes a while to find out what the true story is.

This instinct immediately kicked in when all the ballyhoo began about the $165 million in bonuses being paid to some AIG executives. This is just 0.1% of the money paid out (so far) to AIG and when I saw all the politicians getting into fits of righteous indignation, holding Congressional hearings, calling these executives all kinds of names, demanding the bonus money back, and threatening to use subpoenas and punitive laws to do so, I felt at once that it was all a smokescreen although I did not know what the smoke was covering. But I knew that soon enough, more knowledgeable people would reveal the truth, even though it would not get major coverage in the mainstream media, because the latter is a necessary part of the smoke-generating machine, and dutifully play their role by giving extensive coverage to all the grandstanding, while not investigating the real news.

Some new articles reveal what is actually going on. To understand what they say, you need to know that the term ‘counterparties’ refers to those firms that owned assets of dubious value that AIG had ‘insured’ against loss from their face value. (Note: I have explained before that this was not technically insurance, which is a highly regulated industry, but was essentially an unregulated scheme of private bets.) The taxpayer bailout money to AIG was used to pay off those obligations. But despite using public money and despite the government now owning nearly 80% of its shares, AIG had the nerve to refuse to reveal to the public the names of the companies that it had paid out money to and for what, leading to suspicions that, rather than protecting taxpayer interests, they had deliberately overvalued those assets in order to bail those companies out from their bad decisions. They finally revealed at least the names on Sunday night, a time when companies and governments release bad news hoping the public is not paying attention.

After months of stonewalling, government-controlled American International Group (AIG) finally revealed the names of the counterparties that were funneled $108 billion in taxpayer funds. The largest recipients of AIG bailout funds were European banks, Wall Street firms and, to a lesser degree, municipal governments.
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The fundamental concern is that favored firms may have been overpaid for assets using a large chunk of AIG’s $170 billion bailout package. Though it is now known who the counterparties are, AIG refused to itemize what exactly it is each of them brought to the table. As a result, it’s impossible to know if some firms got better deals than others, or if taxpayers got a raw deal all together.

Eliot Spitzer explains in Slate what is going on:

Everybody is rushing to condemn AIG’s bonuses, but this simple scandal is obscuring the real disgrace at the insurance giant: Why are AIG’s counterparties getting paid back in full, to the tune of tens of billions of taxpayer dollars?

For the answer to this question, we need to go back to the very first decision to bail out AIG, made, we are told, by then-Treasury Secretary Henry Paulson, then-New York Fed official Timothy Geithner, Goldman Sachs CEO Lloyd Blankfein, and Fed Chairman Ben Bernanke last fall. Post-Lehman’s collapse, they feared a systemic failure could be triggered by AIG’s inability to pay the counterparties to all the sophisticated instruments AIG had sold. And who were AIG’s trading partners? No shock here: Goldman, Bank of America, Merrill Lynch, UBS, JPMorgan Chase, Morgan Stanley, Deutsche Bank, Barclays, and on it goes. So now we know for sure what we already surmised: The AIG bailout has been a way to hide an enormous second round of cash to the same group that had received TARP money already. (my italics)
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The appearance that this was all an inside job is overwhelming. AIG was nothing more than a conduit for huge capital flows to the same old suspects, with no reason or explanation.

Spitzer then goes on to ask some very pertinent questions about all the cozy insider dealing between AIG, Goldman Sachs, Paulson, Geithner (who has replaced Paulson as Treasury Secretary), and Benanke. He says that those questions should be asked under oath.

Economist Michael Hudson sheds more light on the deal:

Here’s the problem with all the hoopla over the $135 million in AIG bonuses: This sum is only less than 0.1 per cent – one thousandth – of the $183 BILLION that the U.S. Treasury gave to AIG as a “pass-through” to its counterparties. This sum, over a thousand times the magnitude of the bonuses on which public attention is conveniently being focused by Wall Street promoters, did not stay with AIG. For over six months, the public media and Congressmen have been trying to find out just where this money DID go. Bloomberg brought a lawsuit to find out. Only to be met with a wall of silence.

Until finally, on Sunday night, March 15, the government finally released the details. They were indeed highly embarrassing. The largest recipient turned out to be just what earlier financial reports had rumored: Paulson’s own firm, Goldman Sachs, headed the list. It was owed $13 billion in counterparty claims. Here’s the picture that’s emerging. Last September, Treasury Secretary Paulson, from Goldman Sachs, drew up a terse 3-page memo outlining his bailout proposal. The plan specified that whatever he and other Treasury officials did (thus including his subordinates, also from Goldman Sachs), could not be challenged legally or undone, much less prosecuted. This condition enraged Congress, which rejected the bailout in its first incarnation.

It now looks as if Paulson had good reason to put in a fatal legal clause blocking any clawback of funds given by the Treasury to AIG’s counterparties. This is where public outrage should be focused.

Instead, the leading Congressional shepherds of the bailout legislation – along with Obama, who came out in his final, Friday night presidential debate with McCain strongly in favor of the bailout in Paulson’s awful “short” version – have been highlighting the AIG executives receiving bonuses, not the company’s counterparties.
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[What do] Sen. Schumer, Rep. Frank, Pres. Obama and other Wall Street sponsors gain from this public outcry? For starters, it depicts them as hard taskmasters of the banking and financial sector, not its lobbyists scurrying to execute one giveaway after another. So the AIG kerfuffle has muddied the water about where their political loyalties really lie. It enables them to strike a misleading pose – and hence to pose as “honest brokers” next time they dishonestly give away the next few trillion dollars to their major sponsors and campaign contributors.
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The uproar about AIG bonuses has effectively distracted attention from the AIG counterparties who received the $183 billion in Treasury giveaways. The “final” sum to be given to its counterparties has been rumored to be $250 billion, do Sen. Schumer, Rep. Frank and Pres. Obama still have a lot more work to do for Wall Street in the coming year or so.

To succeed in this work – while mitigating the public outrage already rising against the bad bailouts – they need to strike precisely the pose that they’re striking now. It is an exercise in deception.

The moral should be: The larger the crocodile tears shed over giving bonuses to AIG individuals (who seem to be largely on the healthy, bona fide insurance side of AIG’s business, not its hedge-fund Ponzi-scheme racket), the more they will distract public attention from the $180 billion giveaway, and the better they can position themselves to give away yet more government money (Treasury bonds and Federal Reserve deposits) to their favorite financial charities.
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The money can be recovered. And that’s just what Mr. Schumer, Mr. Frank and others don’t want to see the public discussing. That’s why they’ve diverted attention onto this trivia. It’s the time-honored way to get people not to talk about the big picture and what’s really important.

Barack Obama, Barney Frank, Charles Schumer, and other leaders of both parties are busy grandstanding about the bonuses to hide the fact that they are complete shills for the finance industry and that they have colluded in the outrageous giveaway of huge sums of taxpayer money to the big financial firms, using AIG as the conduit. It is basically a money laundering scheme, to hide the real beneficiaries, the big financial interests that both parties serve.

Our pro-business, one-party government at work, serving the needs of the people they really care about.

POST SCRIPT: Monkey business

Researchers find that some monkeys seem to teach their young children how to floss their teeth. This is remarkable because the ability to consciously teach others how to use tools properly is thought to be a capability that only the human species possesses.

Yesterday, I wrote about the predictable opposition of the low-tax/no-tax zealots to the implementation of the sunset clause that will at the end of 2010 revert the tax rates to its 2000 values.

The most bizarre feature of this opposition has been those who are threatening to ‘go Galt’. Apparently they are taking their cue from John Galt, the hero of the Ayn Rand 1957 novel Atlas Shrugged, who inspired all the allegedly talented people, the leaders of business and arts and inventors and scientists, to show their disgust with the government burdening them with regulations and ‘taking’ their money in taxes for society’s benefit, by abandoning their prosperous careers and going on strike, even withdrawing to a remote enclave in Colorado called Galt’s Gulch. By withholding their talents from society, they caused society to crumble, teaching it the harsh lesson that the very gifted and talented must be left unfettered and tax-free so that their ambition is not shackled and their genius can flourish and thus society as a whole benefits.
[Read more…]

I do my own taxes. They are not that complicated and the tax forms and instructions provided by the IRS are pretty clear and straightforward.

Basically, the system for most individuals is that you add up all your income to get your gross income, then subtract all the allowable deductions (personal and dependent deductions, state and local taxes, home mortgage interest, IRA and charitable contributions, etc.) and you are left with what is known as your taxable income. At the very least, a single person in 2008 would be able to claim the standard deduction of $5,450 and one personal exemption of $3,500, meaning that their taxable income would be $8,950 less than their gross income. If they put away another $5,000 in an IRA savings account, their taxable income gets further lowered by that amount and they pay even less in taxes.

In 2008, for a single person, the tax is computed as follows (see page 80):

On the amount of your taxable income that is $8,025 or less, you pay 10% of the amount.
On the amount over $8,025 and less than or equal to $32,550, you pay 15%
On the amount over $32,550 and less than or equal to $78,850, you pay 25%
On the amount over $78,850 and less than or equal to $164,550, you pay 28%
On the amount over $164,550 and less than or equal to $357,700, you pay 33%
On the amount over $357,700, you pay 35%

The size of each income tax bracket is adjusted each year for inflation.

This is what is meant by a progressive tax code, that the percentage of income that is taxed goes up the higher the bracket in which your top income level is. Your marginal tax rate is the percentage that is taxed on that portion of your income in the highest bracket. So the marginal rate for someone earning $50,000 is 25% (meaning that the portion of income over $32,550 is taxed at 25%), while for someone earning $250,000 it is 33%.

Because of this progressive structure, the actual percentage of your gross income that goes as taxes is much less than your marginal rate. For example, a single person who earns a gross income of $50,000 pays less than 11% of their gross income in taxes, even though their marginal rate is 25%, while a single person who earns a gross income $100,000 pays only about 18% of their gross income in taxes (assuming they take the standard and personal and IRA deductions) although their marginal rate is 28%. So when people say that they are ‘in the 25% tax bracket’, they are merely talking about their marginal tax rate, not the effective rate at which their entire income is taxed.

This is an important distinction between marginal and effective rates that some anti-tax advocates like to blur, by suggesting that small increases in marginal rates are a disincentive to earning, and that it makes good economic sense to limit your earnings so that you stay at a lower marginal rate. It is never the case that, by raising your taxable income so that you move into the next higher marginal tax rate, you will lower your after-tax income.

If you were earning $78,850 dollars (and thus your marginal rate was 25%), and by doing a little extra work you earned $1 more and that pushed you into the 28% marginal rate, only that last dollar would be taxed at the 28% rate, with all the other income unaffected. Your take home income would still increase by 72 cents. If you earn more, you get to keep more.

So-called ‘flat tax’ proposals, in which all income is taxed at the same rate, is regressive. The so-called ‘payroll taxes’ such as Social Security and Medicare are regressive taxes since they are flat taxes of 6.2% and 1.45% respectively on all income. In fact, the former is extremely regressive since that tax is not levied on income over an upper limit that is adjusted for inflation (and is $102,000 for 2008), which means that the more you earn over that limit, the lower the percentage of your income that you pay as tax.

The reason that a progressive tax structure is fairer is that poorer people pay a far greater proportion of their total income for basic necessities like food, clothing, shelter, and health care while the rich have far more disposable income to spend on luxuries. You do not want to heavily tax that portion of the income that goes to meet basic needs, hence the lower rate on the lower brackets.

When George W. Bush came into office in 2000, there were five income tax brackets:

On the amount of your taxable income that was $26,250 or less, you paid 15% of the amount.
On the amount over $26,250 and less than or equal to $63,550, you paid 28%
On the amount over $63,550 and less than or equal to $132,600, you paid 31%
On the amount over $132,600and less than or equal to $288,350, you paid 36%
On the amount over $288,350, you paid 39.6%

Even though these taxes were much lower than most years since 1933 (In 1945, the top marginal rate reached a peak of 94%), Bush and the Republicans pushed relentlessly for even lower tax rates, especially the top marginal rates that affected the very wealthy. By 2003, there were six income tax brackets (as now) but the rates for each bracket were reduced to 10%, 15%, 27%, 30%, 35%, and 38%.

Bush and the Republicans pushed for the even lower rates, which resulted in the current situation. All of these cuts largely benefited the wealthy since it lowered their top rates by more. In other words, they made the tax code more regressive. As a result of these tax cuts, a single person in 2008 earning a gross income of $50,000 saw a drop in their taxes of about $1,300 (compared with the 2000 rates) while someone earning $500,000 saw a drop of about $21,000. The loss in revenue due to the tax cuts that largely benefited the rich, coupled with the huge costs of the war in Iraq and Afghanistan, has resulted in the budget surpluses of 1998-2001 becoming deficits from 2002 onwards.

These tax cuts were sold as a temporary measure, and to help passage a sunset provision was added that was due to go into effect at the end of 2010, causing the rates to revert to their 2000 values. But it was entirely predictable that when the time came for the sunset provision to kick in, the tax cut zealots would start misleadingly squealing that we were getting a tax hike, rather than the truth that we were ending something that was meant to be a temporary measure. And we see this happening now.

While I expected this kind of opposition to reverting to the 2000 rates, what took me by surprise was the sudden channeling by some people of their inner Ayn Rand and their plan to oppose the sunset provisions using a bizarre strategy based on, of all things, the plot of her novel Atlas Shrugged.

Next: Ayn Rand and ‘going Galt’.

POST SCRIPT: Civil liberties and internet censorship

Chris Hansen, senior national staff counsel for the ACLU, will be speaking at the Case Western Reserve University Law School Moot Court Room on Thursday, March 19th from 4:30-5:30 on the topic of “Civil Liberties and Internet Censorship.”
The event is free and open to the public. Call 216-472-2220 or go here for more details.