Bank Mergers are Bound to Change

Bank of America has to pay a record settlement of $17 BILLION dollars due to bad mortgage lending during the financial crisis. This is the same amount as the bank’s profit during the last 3 years, not to mention Bank of America has spent roughly $60 billion navigating all legal issues.  The bank was cited as having bad lending practices with companies they bought: Merrill Lynch and Countrywide Financial. Bank of America’s argument was that they were not the ones making the loans and these loans were originated prior to them merging. However, the Justice Department claimed that Bank of America benefited from the merger since both mergers were completed without government assistance and were not forced by the government.  Citigroup, who had more private ties (with Treasury Secretary, Tim Geithner) and was in more dire financial trouble, only had to pay $7 billion in settlements for bad mortgage loans.


So, what does this settlement mean? It means that any future merges in the banking industry will be more heavily scrutinized by lawyers prior to closing. No bank can afford this settlement over and over again and many banks would fail with such a high legal obligation. Since bank mergers usually only occur when one bank is declining, there is an adverse selection issue with merged banks.  Banks looking to merge are usually in trouble. It may become too costly for a private (healthy) bank to merge with a declining bank if the costs of litigation and possible settlements with the government for past wrongdoings are high. Look for more government forced and assisted mergers, where taxpayers implicitly are guaranteeing stock prices or debt for a troubled bank.

bank of america

Step Right Up and Vote… You Could Win $100,000

The mayoral election in L.A. county on August 12, 2014 had the lowest amount of votes cast in 100 years, at 23.3% of the 1.8 million population. As a result, the Los Angeles Ethics Commission is considering incentivizing people to vote by paying them. One proposal is for a lottery offering a $100,000 prize.

Those opposed dislike that informed voters, who care about voting and take time to learn about the candidate’s platforms, will be alongside people who do not normally get a benefit from voting, but vote anyway to try a win money. Studies by Fordham University Professor Costas Panagopoulus have found that monetary incentives increase voter turnout, although this result is not surprising as many people respond to (dollar) incentives.

In economics, many papers show that the chance of your vote being the marginal vote in any election, especially presidential elections, is infinitesimal. In the 2008 election, the chance of your vote deciding the presidential election was 1 in 60 million or 0.00000001%.  So, why do people vote in the first place if their vote does not matter and why are fewer people voting now than ever before? In the book, To Vote or Not To Vote? The Merits and Limits of Rational Choice Theory, Andre Blais states that there are:

 “two kinds of benefits [that] are associated with voting: investment (or instrumental) and consumption benefits. The investment benefits are those linked to the outcome of the election: they are the difference in utility the individual attaches to having candidate A win rather than candidate B. These investment benefits are contingent on her casting a decisive vote, and the expected benefit is bound to be exceedingly small. The consumption benefits—the sense of satisfaction one derives from fulfilling her sense of duty—are not contingent: she feels satisfied when she votes, whatever the outcome of the decision. She consumes voting for its own sake.”

To making voting fit a rational choice model, one must have a broad definition rather than a narrow definition of rational choice. A broad definition would state that we do not care about a person’s objectives or motives, but rather that the individual is behaving and making choices to maximize their utility. The benefit of voting is a consumption benefit.  A more narrow definition would yield an investment benefit. The problem associated with such a broad definition of rational choice is a risk of tautology—if we argue that a person chooses to do something because they believe the benefits outweigh the cost than the theory never fails.

In an attempt to explain this paradoxical way of thinking about voting, many scholars have made “amendments” to the rational choice theory. Blais explores and refutes them all. Instead, he provides four major alternatives to explain why people vote.

  1. Resources-The decision to participate hinges on time, money and civic skills. The more one has the more likely one is to participate.
  2. Mobilization-Social networks from family, friends, neighbors, co-workers etc. exert pressure on people to behave as a group, rather than as individuals. This peer pressure makes a person more likely to vote.
  3. Psychological involvement- Although a trivial explanation, the more interested a person is in politics, the more likely they are to vote.
  4. Sociological interpretation- an individual acts in their own self-interest and will vote if it is in their best interest to do so.

These alternatives show that the rational choice model is unlikely to be satisfactory at explaining voter turnout. Using these four alternative reasons, the following explanations may explain why people, like those in L.A. county, are voting less than before:

  1. We have just come out of a recession in recent years and people may be working more to meet bills and do not have the spare leisure time to vote.
  2. Although social networking is strong via Facebook and Twitter, face-to-face interaction may be decreasing, so the shame one feels for not voting is not realized.
  3. With all of the arguing in the Federal government and even on local levels, many people are dissuaded from politics.
  4. Individuals may start to realize that voting does not increase their personal job prospects or they are starting to realize that the probability that their vote is the deciding vote in an election is small.

Although, these explanations are simplified, the takeaway is that rational choice theory does not accurately explain why people vote. Instead, as Blais offers, there are physical, cultural, psychological and sociological reasons for why people vote. Offering a monetary incentive to vote will add to Blais’ explanations for why people vote and, empirically, it has been shown that monetary incentives will bring about the desired outcome– more voters.

People Talk With Their Feet, Why Not Listen?

One of my colleagues just posted yesterday about federal subsidies for cities that are failing. He questions why the federal government props up cities that have been in a population decline and lists which cities made the “Most populated cities” list in 1950 and then again in 2013. Detroit, Cleveland and Washington D.C. among others no longer make the top 15. He studies cities and, in particular, the changing demographics of cities over time, so his work on this subject is very interesting.


In particular, he makes a great point about cities not having a right to be large and prosperous:

 “Cities like Cleveland and St. Louis used to be relatively large and well off while cities like Columbus, OH and Austin, TX were small and relatively poorer. Today that is flipped, but that does not mean that the federal government should attempt to put things back the way they were; no city has a right to be large and prosperous.”


This sounds correct, but in reality I am not so sure that cities, or the people who live in them, believe they have a right to grow and create wealth. As mentioned in his blog, cities rise and fall for numerous reasons such as businesses leave for a cheaper location, better parks and recreation, better hospitals, tax structures of local governments and zoning policies. So, is it not that cities lobby for federal financial assistance to overhaul tax structures, fix ill-maintained parks and create better hospitals and then are awarded federal dollars? Or is it that they are envious of prosperous cities like New York and they feel like they have a right to be like NYC without actually moving its entire population to New York?  I would think that it would be the former, although, additional dollars for failing cities rarely helps fix tax structures, bad government or parks. An alternative option would be that the government is worried about socio-economic implications with a declining population since the rich are more mobile, while poorer members of society do not have the means to relocate to find a better job, better neighborhood or school for their kids. However, if the government set up performance-based federal money, I think the decision to give more federal dollars to some cities would change.

The federal government has been handing money to one declining city, Detroit, since the 1960s by means of more subsidies and propping up their large automobile industry. Forty years later, Detroit still has issues, while they continue to receive government money.  If the federal government believed that population trends are any indication for future growth there should be no reason for an increase in federal dollars. People talk by ways of their feet and the government should listen.



Wage Rate Regulation at Different Scales

Readers know I like a good graphic and I love state by state comparisons. Here’s a nifty little state by state comparison of wage rate regulation in the U.S.:

Minimum Wage Legislation by state

Of course, the federal minimum has been set at $7.25 since 2009, and the Obama Administration is contemplating an increase to $10.10. Moreover, cities can get in on the action as well. Danielle and I commented on Seattle’s wage experiment here and here. On that latter score, I stumbled across some friendly-fire skepticism on the wisdom not of raising the minimum but of a city raising it much higher than its surrounding community. Former Labor Department and current Brookings Institution economist Gary Burtless asks us to

Consider a business that mainly sells low-cost, fast-food meals. If it must pay $15 an hour to its low-wage employees, while its competitors less than a mile away are only required to pay $10 an hour, the companies outside Seattle can charge lower prices to their customers for shakes, burgers, and fries, and yet still make a profit. The lower cost establishments can capture a larger percentage of the local fast-food trade, reducing fast-food sales inside Seattle’s city limits. The same is true of the goods and services sold by laundry and dry cleaning establishments, inexpensive motels, and other businesses that depend on low-wage workers to stay competitive. The labor cost disadvantage caused by a higher minimum wage can hurt low-wage employment in Seattle and possibly reduce the value of some of the city’s commercial real estate.

To the extent that consumers have the option of buying goods or services from companies that are not required to pay a higher minimum wage, some of the hoped-for gains from a higher minimum wage will be lost. When customers can conveniently buy products or services from firms that face lower labor costs, the new businesses that they patronize will grow and the old, high-cost businesses they abandon will shrink. Low-wage workers may earn higher wages inside the Seattle city limits, but their employment opportunities in Seattle may shrink.

Read Burtless piece in its entirety here.


Mandatory Labor Union Education?

There is new legislation that is being considered in Connecticut, suggesting that primary school should include a class on labor unions. At first glance, a history lesson on an important institution in America’s history does not seem harmful or ill-advised. However, labor unions are the primary supporters of this legislation and they want to see labor unions not be a one-week lesson in 10th grade, but rather integrated in a year-long course.


“They believe that one of the reasons young people are not organizing in unions is because they’re not taught in schools the benefits of being in a collective workforce,” Kevin Dayton, a policy consultant to non-union construction companies in California.

This is somewhat scary. It appears that this group actually wants to educate kids on the benefits of labor unions and show the power that they hold.  Most certainly, labor unions have power… but is it good power?

Labor unions started in 1866 with the National Labor Union in America.  In 1869, the Knights of Labor emerged to fight against child labor, depressed wages, eight-hour workdays and poor working conditions. Membership rose to 700,000 workers.Fast forward to today where 14 million people are a member in a labor union, roughly 37% of all public sector employees.

A friend of mine, who is in a labor union, gets 16 days off a year for holidays plus an additional 3 weeks of vacation, which he can accrue the more he works over-time. Further, if he is asked to do a job that is not in his job title, he is required to get paid over-time for the work. The health insurance plan is ridiculously good where there are minimum out of pocket pays and most prescriptions cost less than $5.00. Instead of getting a raise in the last five years, the labor union has been arguing over contracts requiring a 3% cost-of-living-increase (COLA) along with a yearly 1.5% raise. Inflation has only been going up approximately 2% per year over the last 5 years  and the economy has not been growing as fast as the proposed raise in this industry. With the newest report of a large GDP quarterly fall of -2.9% this seems hard to justify from the employer’s perspective. So, it is a partial COLA increase, partial raise and an additional raise the labor-union is asking for.  The company refuses this contract and the labor union refuses anything but this contract. Eventually, when the economy booms again, this will retroactively be passed. This labor union has power.

So, if labor union history is going to be taught. I assume it will be taught something like this…tout about the benefits only and never mention the costs. Examples of benefits: higher way for low-wage workers/middle-tier workers, better benefit packages, better work conditions, more picketing with you do not get your way, etc.

The costs that almost certainly outweigh the benefits of labor unions in today’s society may be twiddled down to a ‘hindrance’ or not mentioned altogether if this legislation passed. Examples of costs: less employment (unions raise the price of labor, so employers will purchase less of it), a shift of power to low-skilled or low-wage workers at the expense of the higher-wage or higher-skilled workers (note, I am not saying that low-wage workers have low-skill, however in a free market economy such that each worker is paid their marginal product a low-skill worker would only garnish a low-wage).  Further, bad employees are harder to fire in a labor union as they usually have high-powered lawyers supporting against bad working conditions or mean management.

EconLib explains this quite well:

“According to Harvard economists Richard Freeman and James Medoff, who look favorably on unions, ‘Most, if not all, unions have monopoly power, which they can use to raise wages above competitive levels’ (1984, p. 6). Unions’ power to fix high prices for their members’ labor rests on legal privileges and immunities that they get from government, both by statute and by nonenforcement of other laws. The purpose of these legal privileges is to restrict others from working for lower wages. As antiunion economist Ludwig von Mises wrote in 1922, ‘The long and short of trade union rights is in fact the right to proceed against the strikebreaker with primitive violence.’ Interestingly, those who are expected to enforce the laws evenhandedly, the police, are themselves heavily unionized.”

Some people are fearful of stepping out and debating on employment contracts on their own, so they want a collective group to do it for them. Labor unions are equally scared to wither away in existence as more people in society see them as a disgruntled employees always looking for a fight. No one wants to work with the mean guy or in this case, a group of mean employees. People like to be individuals and think freely, but they also like to be taken care of.  In the matter of public school education on labor unions, I think it would be a major win for labor union supporters and collectivism. It would be a major failure on the part of a free society for the economics (and thus the costs) behind labor unions not to be explained.


The NFL…a Charity?

As mind-boggling as this sounds, the NFL has a non-profit status. What does that mean? Below, I detail more about the law and what can be expected to occur in the future of the NFL holding such a status.


What is the Law?

The IRC, Internal Revenue Code, 501 (c), which details which organizations are exempt from Federal income tax, in rule (6) states that:

“IRC 501(c)(6) provides for exemption of business leagues, chambers of commerce, real estate boards, boards of trade, and professional football leagues (whether or not administering a pension fund for football players), which are not organized for profit and no part of the net earnings of which inures to the benefit of any private shareholder or individual.” (emphasis added)

This means that the NFL does not make a profit and therefore cannot be taxed by the federal government. Although individual teams make money, the league itself does not.


In even simpler terms what does this mean?

  1. If NFL employees, like Commissioner Roger Goodell, stay at a hotel Saturday night before a Sunday morning game–they cannot be charged tax.


  1. Even though the NFL has a revenue stream of an estimated $20 billion, it makes no profit. After paying the executives, lawyers and donating money to other charities there are no profits. Yes, The NFL’s commissioner was paid $44.2 million in 2012. But, no business income taxes were paid on that money.


  1. The $35.9 million for the NFL headquarter office in Manhattan was paid for from league revenues and that money was never taxed.


To be clear, the NFL is not the only beneficiary from the professional sports clause of the non-profit law. The NHL and some pro-golfers also enjoy the benefits of no federal income taxes. The NBA never had non-profit status and the MLB gave it up in 2007 in what they claim was a tax-neutral move. I highlight the NFL here due to its increasing popularity.

Background behind the Law

Without the legal jargon, the IRC 501(c) code further states that the professional football league was added to the described non-profit organizations on November 8, 1966 and the NFL should not fear an antitrust challenge by the Clayton Antitrust Act or the Federal Trade Commissions Act.

These two acts prohibit business practices that deprive consumers of the benefits of competition, often resulting in higher prices for products and services. When the American Football League and National Football League combined to form what is now known as the NFL, in 1966 (note the year), lawyers for the NFL feared that the Clayton Act would prohibit them from merging to form one league. More specifically, the Clayton Act prohibits mergers and acquisitions that lessen competition and increase prices to consumers. To successfully avoid this law, the NFL filed for non-profit status, which exempt them from any antitrust challenges by the Clayton Act.  They were allowed to file under non-profit status  since the NFL serves more as a “trade association”, which means it promotes the interests of clubs. For example, they create industry standards, develop benchmarks for companies to use, lobby the government etc.

Therefore, the NFL not only avoided (and still avoids) paying federal income tax, while also being allowed to merge together with the AFL to form one powerhouse organization.

Why the General Public should be Upset

If the AFL and NFL still existed, they would compete for good football players (and more importantly, fans/consumers). Assuming that both leagues had the same product (i.e. equally good football players and football operations), teams would have to compete for the same fans based upon the prices of tickets. If there are the same products being offered by two different companies, where would you chose to buy from? Usually, if not always, you would choose the cheaper product.

In other words, the non-profit law allowed the merger between the AFL and NFL to occur, which exempt them from antitrust regulations, thus eliminating the incentive for firms to keep costs (including ticket prices) down.

Further, most of the revenue of the NFL comes from annual dues each team pays to cover operating expenses and salaries. The money is generated by teams who benefit from playing in the NFL framework. Without the NFL stamp of approval, a stand-alone professional football team stands little chance to make money, today. But, it gets even worse. The teams write off these dues as “charitable donations.” Although each individual NFL team pays taxes, their tax burden is greatly reduced by paying their parent organization, the NFL, dues.

Not to mention, most of these “dues” that the 32 NFL teams pay to the NFL organization are given back to teams through low-interest loans (lower than what a private bank would give) for stadium improvement. So, this untaxed money is not for “profit”, yet it certainly helps private individuals (NFL team owners). Doesn’t that violate the non-profit law? Lastly, the public pays for stadium improvements through local taxes that are earmarked for professional sports or through additional tax breaks.

Why the NFL believes it should have non-profit status

Alternatively, a point that the NFL’s team of intelligent and skillful lawyers make is that the 32 teams in the league are all competitive and that the team markets overlap, therefore the NFL does not violate antitrust laws. For example, the New York Giants and New York Jets play in the same stadium and therefore, have the same fans to compete for. Competing for consumers will bid down the prices of tickets and merchandise. This is one unique part of the New York market, but one can even imagine Charlotte and Atlanta, although four hours apart, compete for the fan base that is directly two hours away. (Not only do firms compete for fans in the immediate geographic region, but with Internet and cable expansion firms compete across regional boundaries as well.)


Further, the NFL believes that it does function as a trade association—it creates intellectual property, licensing logos and merchandise as well as negotiation for television contracts.  However, don’t all private businesses that make “profit” create intellectual property, logos or merchandise as well as negotiate successful media contracts?


What is the future for this law?

Senator Coburn from Oklahoma first brought the PRO Sports Act, which is the Property Reducing Overexemptions for Sports Act, to Congress in September 2013. His report suggests that this tax loophole is worth $10 million a year and over $109 a decade. There is a simultaneous bill on the table from January 2014 in the House of Representatives by Representative Chaffetz from Utah. However, the NFL pays major money each year to lobby Congress on the non-profit status of the NFL and thus this bill has been stalled.


Phillip Hackney, a former IRS lawyer and now LSU law professor believes that pro sports leagues violate the tax code:

“If there is a justification for providing tax exemption to business leagues, it would be they operate for the public purpose of aiding commerce for all within a broad segment of some type of business or business in general. Commerce is important to our country, and we should encourage those who are working on it in a rather publicly minded manner. These (sports) organizations, in my opinion, are anything but public-minded in their profit interest. They are focused on the profits of their franchises.” (emphasis added)

However, I believe that Ken Berger, the president and CEO of Charity Navigator, a company that evaluates charities, sums the NFL non-profit status up perfect:

“Nonprofit status is typically given to groups that deliver services that private-sector companies are unwilling or unable to provide. The NFL stretches that definition.”

So, is it a stretch to say that the NFL is a charity?