Will the Real Small Businesses please stand up?

            Which one of these are small business—the local dry-cleaner that employs 5 people, Koch Industries which employs 70,000 people, or Price Waterhouse Coopers, an accounting firm with $26 billion in annual revenue? Most of you are probably guessing the dry cleaner, and that would be right. Well, partially at least. According to the IRS, all of these are small businesses. 

            When most of us think of a small business, we imagine, as Governor Romney remarked in the recent Presidential debate: " the guy who is […] in the electronics business in […] and has four employees." Both President Obama and Governor Romney agree that taxes on these firms should not be increased; in fact, both make strong cases that reductions in taxes for these small businesses can spur job creation.

            The disagreement comes when we ask whether Price Waterhouse Coopers or Koch Industries are small business. While many of us would say these companies are certainly not small businesses, a provision in the tax code allows them to be considered small. Essentially, when a corporation registers with the IRS it can either be a "C corporation" or a "S corporation." C Corporations are the "Fortune 500 companies" with large revenues and more than 100 shareholders (think Wal-Mart, Microsoft, Exxon). S-corporations, on the other hand, tend to be the "small businesses" with less revenue and fewer than 100 shareholders (think local grocery store, 2-man DJ business, or the burger joint down the street). Companies like Koch industries and Price Waterhouse Coopers, which are not Fortune 500 nor are they the local small business, have a choice—should they register as a C-corporation or an S-corporation?

Well, their decision comes down to tax rules—essentially, the profits of S-corporations are "passed through" to the owners and taxed at the personal rate, whereas the profits of C-corporations are taxed at the corporate rate. Thus, if the personal rate is lower than corporate rate, these companies are incentivized to register as S-corporations even though they are not truly "small businesses." For example, if a company has profit of $100,000, and then if registered as an S-corporation, the owner faces a 25% top marginal rate, but as a C-corporation, the profit would be taxed at a 34% top marginal rate. Given this reality, companies like Koch Industries, and Price Waterhouse Coopers, among others, have decided to register as S corporations. 

When President Obama says: "under my plan, 97 percent of small businesses would not see their income taxes go up," he refers to the 97% of S-corporations that are truly small businesses and have profits below $250,000." Alternatively, when Governor Romney replies that President Obama's plan raises taxes on small businesses, he is referring to the 3% of S-corporations that earn above $250,000 profit annually (i.e. companies like Koch Industries). These 3% of S-Corporations may not be so small, given that they employ 50% of all Americans employed in small businesses. In other words, if 100 Americans work in small businesses, 50 of them are employed by 3% of the companies. As such, referring to those 3% of S-corporations, which also includes the $54 billion investment firm KKR  and Ferrellgas an energy company that had $2 billion in revenue last year, as "small business" seems a bit imprecise and unclear.

Thus, when politicians refer to small businesses, ask them—do you mean companies like Bechtel which employ 44,000 people or my local barber which employs 5 people.  

                

World Teacher's Day

            In honor of World Teacher's Day, I wanted to share my thoughts on teachers.  In past Teacher Appreciation Weeks, I have blogged about Mr. Elk, my 10^th and 12^th grade Latin teacher who inspired me to realize that learning was not simply memorizing for an exam; rather, true scholarship was an endless quest for knowledge, a unyielding desire to find the answer, a continuous journey for truth. This year, however, I thought I would offer more general thoughts on teaching.

            Teachers are heroes. Period; full stop.  Are there some teachers who are not perfect? Absolutely; just like there are some doctors, lawyers, and cops who are flawed. But, teachers are truly amazing people because they dedicate their life to helping others reach their dreams. Imagine, teachers study from K-college (and sometimes longer if they attend graduate school) in the hopes of supporting their students' dreams. They work, not for personal gain or external compensation, but for internal gratification—the thought that they helped shape a kids life or they played a small part in reducing the achievement gap.

            Perhaps these abstract reasons are not convincing enough, so let me be clear—strong teachers foster a hard-working, intelligent, empathetic next generation that will grow this nation's economy. Today's teachers, in other words, create tomorrow's leaders.

            If we accept that teachers are heroes and they are crucial to the country's development, we should treat them that way. For example, rather than considering it "an easy job, with short hours and summers off,"  teaching should be viewed as a demanding profession where "many work for little pay, and insufficient support from their leadership.” As President Obama said: “In South Korea, teachers are known as ‘nation builders,’ and I think it’s time we treated our teachers with the same level of respect.”

Increasing teacher status is, in part, linked to raising teacher salaries. US teacher salaries are currently average 40% less than the average salary of other American college graduates, whereas in Finland, one of the highest achieving nations, teacher’s salary is 13 percent less than that of the average college graduate. The steep salary gradient disincentivizes some of America's top college graduates from entering teaching.

Secondly, and equally important, rather than blaming the nation's educational woes on teachers, we should understand that there are significant school-level and community-level factors that contribute to poor performance.  Does increasing teacher quality raise educational outcomes?  Yes; part of the Massachusetts' educational success has stemmed from improving teacher quality. But, there are significant structural factors—school funding framework, dilapidated school buildings, neighborhood poverty, underinvestment in public goods— over which teachers have no control, that also contribute to poor educational performance.

On this World Teacher's Day, we should all take the time to remember how amazing teachers are and the impact they really do have on children. We must also work to raise the status of teachers—because our heroes deserve respect and support not blame and scorn.

           

Positve Jobs numbers but more work to do

Solid Jobs growth but we need more:

            144,000 jobs were created this month and the unemployment rate is down to 7.8%, according to today's jobs report. The report also revised the July job growth from 141,000 to 181,000 and August job growth from 96,000 to 142,000 jobs. While at this pace the economy will take nearly a decade to return to full employment, the positive job growth is encouraging. It is, however, still crucial that Congress and the President work together to spur further job growth.  There are three specific policies that the country should pursue.

            Firstly, President Obama should reintroduce the American Jobs Act, and Congress should strongly consider passing it or something similar. This bill would extend the Payroll Tax cut to boost spending, create an infrastructure bank to leverage private dollars to rebuild America's roads, bridges, and airports, and retrofit the nation's dilapidated schools to employ  construction workers today. According to Marc Zandi of Moody's, these policies would "increase GDP by 2 percentage points in the following year, add 1.9 million jobs, and cut the unemployment rate by a percentage point."

Secondly, President Obama must explain that the recession and corresponding budget cuts have led to increased crime, higher class sizes, and reductions in programs for the disabled. Simply put, states do not have adequate funding for law enforcement, educational programs, or medical initiatives. President Obama must therefore advocate greater aid to state and local governments so they can hire more teachers and cops and begin investing in necessary programs. Similar investments were made in the Recovery Act and helped raise real GDP in 2010 by 3.4 percent, reduce unemployment by 1.5 percentage points, and create almost 2.7 million jobs.

            Thirdly, the President and Congress should work together to avoid the looming fiscal cliff, which will raise taxes on all Americans and significantly cut spending. By working to reach a comprehensive, balanced solution to the growing deficit, the nation will avoid the Fiscal Cliff that is projected to cost millions of jobs and "shave 3.6% of the GDP."

            These three steps will complement the positive job growth the we have already seen and help put us on a path towards a strong economy. By investing in infrastructure, helping states hire teachers and cops, and reducing the deficit through a balanced approach, President Obama and Congress can ensure the nation recovers as quickly as possible.   

           

The Syrian situation

Military force should always be the last option in conflict resolution.  Armed interventions cost significant treasure from the intervening nations, require diligent logistical planning, and, most importantly, risk losing the lives of men and women serving in the armed forces.  Despite all this, there does come a point when all potential diplomatic and economic options have been tried, yet the suffering and carnage continue unabated.  When policymakers are faced with the choice of allowing this destruction to continue or commencing limited military operations, they must make the courageous, yet difficult decision, of beginning military intervention.  Of course, this military action should by no means be unilateral; rather, it should be multilateral and done with each nation leveraging its own comparative advantage. 

After the two recent massacres in Syria—one in which 100 men, women, and children were killed (including one baby with a pacifier still in his mouth) and another in which 13 Syrians were killed with their hands bound behind their backs.  These attacks are just the most recent atrocities in the over year-long uprising in Syria.  During this violence, over 9,000 have been killed and thousands more have been wounded.  Initially, the international community condemned and castigated the Assad regime.  International policymakers hoped that the opposition would topple Assad or that he would simply go into voluntary exile.  But, sadly, neither of those outcomes have occurred; in fact, during the past 16 months, Assad has only hardened and shown himself willing to use deadly violence on his own people. 

In this dismal, sad reality, it is incumbent upon the international community to intervene and stop the killing.  The world tried diplomatic pressure, but that failed.  The world tried a UN-deal, but that failed.  The world tried economic force, but that failed.  As such, the international community must form a coalition and commence military action.  The killing in Syria has reached levels that are simply unbearable.  President Obama must lead a global coalition that includes NATO, the Arab League, Turkey, and the EU.  While the US certainly does not need to do all the heavy lifting, Americans will have to supply the bulk of the material.  Military action is never easy, never pretty, and never bloodless, but in some instances when there is so much death, so much carnage, and so much loss of innocent life, it is a necessary step. 

The Indian economy

                "I will be the first to admit that we need to do better." Indian Prime Minister Manmohan Singh said this on Tuesday and, given India's recent economic indicators, he was exactly right.  Firstly, India's exchange rate fell to the lowest value against the U.S. dollar, as 1 Dollar now equals 56 Rupees.  A falling exchange rate not only indicates a weakening economy but also renders imports more expensive.  For example, if we assume oil is $100/barrel and the exchange rate is 50 Rupees/Dollar, then one barrel of oil costs 5,000 Rupees.  But, with the exchange rate at 56 Rupees/Dollar, one barrel of oil now costs 5,600 Rupees.  This may not seem like a huge spike, but because India imports over 3 million barrels of oil per day, the small increase costs India significantly (1.8 Billion Rupees per day).  Secondly, India's growth rate has slowed to 7%.  Again, for many countries (the US included), a 7% growth rate is enviable; however, much of the 7% growth comes solely from working-age population increases.  Put differently, as more people work, the economy will necessarily produce more.  But, real economic growth, stemming from productivity gains and industrial growth, has virtually ground to a halt.  Thirdly, India faces mounting inflation (over 7%) which has eroded any increases in income.   That is, even if one's income is rising 7%, if the prices of goods are also rising by 7%, then the real value of one's income has not increased.  Moreover, the rise in inflation has rendered the Royal Bank of India, India's Central Bank, hesitant to cut interest rates, which can spur economic growth but will lead to inflation.  (As interest rates are lowered, people borrow more money and thus spend more which grows the economy.  But, in order to lower interest rates, the government prints rupees which decreases the value of rupees and causes inflation).  While these problems are significant and will require strong, courageous leadership coupled with a suite of policy options to remedy the situation, here are three steps India can take to improve its economy. 

1.       End the fuel subsidies that largely benefit wealthy Indians and incentivize over-consumption of energy.  India currently subsidizes diesel, kerosene, natural gas, and hydrocarbons and only recently ended the petrol subsidy.  These subsidies cost billions per year, distort the economy, lead to over-consumption, and, not to mention, harm the environment.

2.       Create a conditional cash transfer program that provides subsidies to low-income Indians provided they send their children to school daily and visit the doctor regularly.  Such a program will not only provide low-income Indians with much-needed cash that would be spent and thus boost economic growth, but also improve educational and health outcomes.  What's more, these programs have been very successful in Mexico, Brazil, and Colombia.

3.       Strengthen its tax base and improve its collection schemes.  Currently India is running a 6% annual deficit in part because its revenues are significantly lower than they could be.  Part of the reason for this is the prevalence of so-called "black money."  Black money is money that is not reported to the government and, thus, is not taxed.  For example, imagine you are selling me a car, and we agree on a price of $10,000.  Rather than me paying you the $10,000 in "white" (i.e. legal) money, I will pay you $5,000 in white money and $5,000 in black money (i.e. cash).  Thus, you will report the sale to the government as $5,000 and pay tax on that amount.  The other $5,000, however, you will not report and thus pay no tax on it.  This practice is quite prevalent in India, and a recent paper estimated that by taxing all the black money at 30%, India could pay down the entire annual fiscal deficit.  This problem is coupled by India's poor tax collection and rampant evasion, which results in only 20% of the population paying any tax.  In short, in order to raise revenue both to spend on key government programs and to pay down the deficit, India must reform the tax system and reduce the pervasiveness of black money.

These three policy options alone will not put India on a path to economic growth, but they must be part of the solution.  India's robust economic growth is vitally important given that India is home to almost 17% of the world's population.  Yet, a strong India, which is predicated on a vibrant economy, is crucial also because of India's growing geopolitical role vis-à-vis the US.  Put differently, India is a naturally ally for the US and can form an unshakable partnership with the US.   An economically powerful India offers the US an important friend in Asia, a check on China's rising power, and a key trading partner.  In short, India's recent economic slowdown hurts not only the 1.2 billion Indians aspiring for a better life but also the 300 million Americans hoping for the greatest ally in Asia.