Partial Tax Exemption Will Unleash the Free Market and Buoy Our Damaged Credit Markets

The following release is being issued by John Blake, Registered Investment Advisor:

The root of our financial crisis, while reflected in stock prices, is based on a collapse of the credit markets and a virtual disintegration of risk-taking activities by individual bond and commercial paper buyers, banks, fixed income mutual funds, and other buy side participants in the credit markets. Simply put, buyers are scared to buy and a deflationary mentality has gripped the credit markets. Confidence and trust has been broken, and potential buyers ask themselves this simple question: 'Why not wait until tomorrow or next week, when prices will be even lower?' Unfortunately, with plummeting fixed income prices, this paranoid logic has become a self- fulfilling prophecy.

Unless and until credit market liquidity and normalization is restored, the equity markets and the general economy will not recover, and may be subsequently frozen into a protracted depression. Federal authorities have no choice but to act aggressively and boldly to unfreeze these credit markets.

The problem with prior government actions, including the $700 billion bailout of tainted mortgages is that such actions have NOT unfettered the free market of capitalism. Rather, such actions have injected a message of desperation and socialism into the picture.

If Hank Paulson, George Bush, Nancy Pelosi, and Ben Bernanke are committed to evading an economic depression, they will immediately shepherd and coordinate an interest earned tax exemption bill through the U.S. Congress.

This author proposes national legislation that would temporarily waive fifty percent of all federal income taxes on any taxable income earned from any interest bearing investments except for guaranteed or insured U.S. Treasury securities, direct U.S. agency securities, FDIC insured deposits, or NCUA credit union deposits. In other words, if an investor or institution were to acquire corporate bonds, mortgage instruments, commercial paper, or any other interest earning investment that is NOT federally insured or guaranteed, the investor or institution would receive this income with a 50% reduction in federal income taxes. Such a move would have the effect of greatly increasing the after tax yield on a myriad of fixed income investments, and would act like a magnet to flush out capital from risk averse havens. In this fashion, the government would encourage free market buying activity without having to socialize our system by becoming the constant buyer of last resort. And, by reducing the tax rate by 50% in lieu of complete tax exemption, the legislation would have minimal impact on the fully tax-exempt municipal bond and note markets.

Mathematically, such an inducement would be quite powerful. Take for example a hypothetical corporate bond trading today at a yield of 12% because buyers are unwilling to risk their capital. Currently, such a bond offers an after tax yield of only 8.04% based on a maximum 33% federal tax rate. However, if 50% of the interest income is exempted from federal taxes, the revised after tax yield would become 10.02%. This represents a yield enhancement for the investor of nearly 25%! A partial tax exemption such as this could be enacted quickly and would immediately begin to attract fear stricken capital out of risk free assets such as Treasury bills. The problem is not a shortage of capital; the Federal Reserve and Treasury have certainly assured a steady flow of money into the banking system. Rather the problem is a dearth of 'risk taking capital', the critical capital that facilitates every form of credit in this country. This is why the tax exemption must be limited to non-insured or non-federally guaranteed instruments. There is simply no need to attract more capital into risk free sectors of the fixed income markets.

This temporary tax exemption would benefit individual and institutional investors who would be willing to deploy some of their monies into the now depressed fixed income markets. In turn, this would cause bid prices to strengthen and assist the federal authorities in stabilizing the overall economy.

It is time for federal authorities to unleash the free markets by creating a bold incentive for investors to begin taking risk again with their fixed income dollars.

About John Blake

Mr. Blake is a veteran securities broker and registered investment advisor in California. His experience includes both fixed income and equity trading for the last twenty-seven years. Contact: John Blake (714) 227-5557 john@johnblake.us

Source: John Blake

CONTACT: John Blake, +1-714-227-5557, john@johnblake.us