May 1, 2009
RE: Monthly Letter
Dear Clients:
Well, tax day has come and gone, and I am in hopes that you all have enough left to take you and your friends out for a pizza.
In the meantime, we are in the midst of “The Great Recession.” For a historical sense, below is a chart showing you how we stack up with previous recessions and time.
Since last April, our economy has ground to a crawl. Millions have lost their jobs, nest eggs have evaporated, our financial system has been brought to the brink, we’ve mortgaged our future with bailouts, wars, and stimulus spending. Let’s hope the economy turns soon so the growth takes up some of the slack, and it is not all shifted onto our tax bill.
I like to think that I am not that old, but I do remember James Earl Carter, our President, along with 21% prime interest rates and 20% inflation. I remember Paul Volker attempting to strangle inflation by strangling the money supply. With Mr. Volker returned to a quasi-official capacity, I’d guess we’re in for a bout of inflation, and his job is to minimize it. But with the money supply increased by 20%-30% of GDP, inflation must result. That means fixed assets will rise to keep pace with the devaluation of the currency. At first it will be called “re-flation”. I’m not formally schooled in these matters; I’m just a guy who has seen this movie before. The side effect of saving our economy will be a robust increase in inflation. I believe that inflation will regain all the value we have lost over the last couple of years in the next five years or less.
Warren Buffett on CNBC while praising President Obama’s efforts to stimulate the economy said, “The current course could trigger higher inflation when demand rebounds. We are certainly doing things that could lead to a lot of inflation. In economics there is no free lunch.”
In my never-ending quest to keep your toolbox full so you can be well educated about your commercial real estate, you will find below an excellent summary of the real estate cycle by The London Group. At this point, I’d put us right at about 4 pm. However, armed with this you should almost be able to predict the future!
Close to home, getting a loan continues to be the bane of investors and tenants alike. Activity remains fair, but deal closure is rare. We might finally be reaching capitulation as tenants and owners throw up their collective arms and make deals rather than go in circles any more.
So as you sit around eating pizza with what you have left from your taxes and contemplate the future looking at the real estate cycle chart, I hope you enjoy the tax story attached as it explains paying for your pizza and those that depend upon you.
Regards,
Don
Don S. Zech
CDC Commercial
Real Estate Services
Suppose that every day, ten men go out for pizza and the bill for all ten comes to $100.
If they paid their bill the way we pay our taxes, it would go something like this:
The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.
So, that’s what they decided to do. The ten men ate at the pizza parlor every day and seemed quite happy with the arrangement, until one day, the owner threw them a curve.
“Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily pizza by $20.” Eats for the ten now cost just $80.
The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still eat for free. But what about the other six men – the paying customers? How could they divide the $20 windfall so that everyone would get his ‘fair share?’
They realized that $20 divided by six is $3.33. But if they subtracted that from everybody’s share, then the fifth man and the sixth man would each end up being paid to eat his pizza. So, the bar owner suggested that it would be fair to reduce each man’s bill by roughly the same amount, and he proceeded to work out the amounts each should pay.
And so the fifth man, like the first four, now paid nothing (100% savings).
The sixth now paid $2 instead of $3 (33%savings).
The seventh now paid $5 instead of $7 (28%savings).
The eighth now paid $9 instead of $12 (25% savings).
The ninth now paid $14 instead of $18 ( 22% savings).
The tenth now paid $49 instead of $59 (16% savings).
Each of the six was better off than before. And the first four continued to eat for free. But once outside the restaurant, the men began to compare their savings.
“I only got a dollar out of the $20,” declared the sixth man. He pointed to the tenth man, “but he got $10!”
“Yeah, that’s right,” exclaimed the fifth man. “I only saved a dollar, too … It’s unfair that he got ten times more than I did!”
“That’s true!!” shouted the seventh man. “Why should he get $10 back when I got only two? The wealthy get all the breaks!”
“Wait a minute,” yelled the first four men in unison. “We didn’t get anything at all. The system exploits the poor!”
The nine men surrounded the tenth and beat him up. The next night the tenth man didn’t show up for eats, so the nine sat down and had pizzas without him. But when it came time to pay the bill, they discovered something important. They didn’t have enough money between all of them for even half of the bill!
And that, boys and girls, journalists and college professors, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore. In fact, they might start eating overseas where the atmosphere is somewhat friendlier.
David R. Kamerschen, Ph.D. Professor of Economics University of Georgia
