Published by Money Matters

Your child has finally finished college and started his/her first full-time job. What is the most important financial advice you can give your child?

The first piece of financial advice you should give to your child is that they participate in their 401(k) plan as soon as they are eligible. The quality of your child’s retirement will largely be determined by the amount of money he/she saves, and a 401(k) plan is a great place for him/her to start. Before marriage, a new home, or other obligations consume his/her entire paycheck, get him/her into the habit of saving. Since the contributions are deducted before he/she even sees his/her paycheck, it’s a great way to get him/her into the habit of saving on a regular basis.

Having trouble convincing him/her that this is a good strategy? Perhaps some numbers will make the point. Assume your child starts contributing to his/her 401(k) plan at age 25, contributing $6,000 per year (substantially below the maximum contribution in 2010 of $16,500), with matching employer contributions of $3,000. If he/she earns 8% annually, he/she could have a balance of $2,331,509 at age 65, before the payment of any taxes. What if he/she waits until age 35 to start contributing?

At age 65, the balance could be $1,019,549, still a substantial amount, but $1,311,960 lower than if he/she started participated in their 401(k) plan at age 25. (This example is provided for illustrative purposes only and is not intended to project the performance of a specific investment vehicle.)

What if your child still isn’t convinced? Consider reimbursing him/her, as part of your annual gift tax exclusion, for any 401(k) contributions. You can reimburse the entire amount or offer to make a partial reimbursement.

Don’t let your child procrastinate because there are too many decisions to be made. Just encourage him/her to start contributing, reassuring him/her that none of the investment decisions is permanent. He/she can still review contribution levels, investment choices, beneficiary designations, and other matters at a later date.

If your child has the option to contribute to a regular 401(k) plan or a Roth 401(k) plan, you may want to suggest contributing to the Roth 401(k). Employer matching contributions will still be made to a regular 401(k) plan, but your child’s contributions can go to the Roth 401(k). Your child won’t get a current tax break for contributions made, but he/she will owe no taxes on the contributions or any earnings when withdrawals are made. This can make a huge difference in the amount of money available for retirement.

What if your child doesn’t have a 401(k) plan at work? Encourage him/her to contribute to an individual retirement account (IRA). Although contributions are limited to $5,000 in 2010 compared to $16,500 for 401(k) plans, IRAs are still a good way to save for retirement.

The advice sounds simple enough — to force yourself to save regularly, treat those savings as a bill to yourself and pay that bill first every month. But when you’re faced with a stack of bills that includes your mortgage payment, your car lease, and groceries to feed the kids, you’re likely to skip paying yourself for at least another month. Unfortunately, those months can add up with little in the way of savings. If you’re looking for ways to start paying yourself first, consider the following:

Reduce spending, diverting those reductions to savings. One way to accomplish this is to cut back on your spending, perhaps reducing your expenditures for dining out, traveling, clothing, or entertainment. But for many people, this feels too much like sacrifice, making it difficult to stick with this strategy.

Another alternative is to find ways to spend less for the same items. For instance, get quotes for your car and home insurance from several companies, placing any premium reductions in savings. Or find ways to reduce your borrowing costs. Instead of paying higher interest rates on credit cards, consider paying those balances with a home-equity loan. Not only will the interest rate typically be lower, but the interest may be tax deductible if your balance is less than $100,000. Just make sure any reductions in your costs go directly to your savings.

Save all unexpected income. Immediately save any money from tax refunds, bonuses, cash gifts, and inheritances. Before you get used to any salary increases, put that raise into savings, possibly in your 401(k) plan.

Make saving automatic. Resolve to immediately set up an investment account that automatically deducts money from your bank account every month. Start out with small amounts that aren’t even noticeable. As you get used to saving on a regular basis, increase the amount periodically.

Another good alternative is to sign up for your company’s 401(k) plan. Not only will the amount be automatically withdrawn from your paycheck, but you won’t pay current income taxes on those contributions. (Keep in mind that any automatic investing plan, such as dollar cost averaging, does not assure a profit or protect against loss in declining markets. Because such a strategy involves periodic investment, consider your financial ability and willingness to continue purchases through periods of low price levels.)

Inflation has been tame for so long that it’s easy to forget how much it can affect your purchasing power over a long retirement. Over the past 10 years, inflation, as measured by the consumer price index, has averaged 2.5% (Source: Bureau of Labor Statistics, 2009). At 2.5% inflation, $1 is worth 78¢ after 10 years, 61¢ after 20 years, and 48¢ after 30 years. Thus, you need to look for strategies to lessen inflation’s impact during retirement:

Use a conservative inflation rate when planning for retirement. You don’t want to run out of money during retirement. So when calculating how much to accumulate by retirement age and how much to withdraw during retirement, use a conservative inflation rate. While inflation has averaged 2.5% over the past 10 years, it has averaged 3.9% over the past 30 years (Source: Bureau of Labor Statistics, 2009).

Determine how much of your retirement income is indexed for inflation. Social Security benefits are currently indexed for inflation, but most defined-benefit pension plans do not make adjustments for inflation. Thus, other income sources will have to fill an increasing income gap over time.

Invest in tax-advantaged retirement vehicles. Look into 401(k) plans, individual retirement accounts, and other retirement vehicles. While each has different rules for taxing contributions and earnings, all provide some tax-free or tax-deferred benefits. Since you aren’t paying income taxes on earnings during the years, that typically means you’ll have a larger balance at retirement.

Choose investments carefully. To avoid losing purchasing power, your after-tax rate of return should be higher than the inflation rate. Review your investments annually to make sure you aren’t losing purchasing power.

Mangingmoney.com recently asked an interesting quesion, “is 10% enough for retirement?”

A common rule of thumb when planning for retirement is to save 10% of your gross income during your working years. Since this rule of thumb has been around for a long time, it’s logical to question whether it’s still an appropriate guideline. Several trends suggest that it is probably on the low side:

• Fewer individuals are covered by defined-benefit plans. The 10% guideline anticipated that a retiree would receive a defined-benefit pension as well as Social Security benefits. But a substantial portion of the work force is no longer covered by a defined-benefit pension.

a defined benefit pension plan is a type of pension plan in which an employer promises a specified monthly benefit on retirement that is predetermined by a formula based on the employee’s earnings history, tenure of service and age, rather than depending on investment returns. It is ‘defined’ in the sense that the formula for computing the employer’s contribution is known in advance. In the United States, 26 U.S.C. § 414(j) specifies a defined benefit plan to be any pension plan that is not a defined contribution plan where a defined contribution plan is any plan with individual accounts. A traditional pension plan that defines a benefit for an employee upon that employee’s retirement is a defined benefit plan.1

The most common type of formula used is based on the employee’s terminal earnings. Under this formula, benefits are based on a percentage of average earnings during a specified number of years at the end of a worker’s career.

• The Social Security system will face increasing pressure in the future. Due to the unprecedented number of baby boomers that will be retiring in the near future, there will be fewer workers to pay the benefits for each retiree. By 2037, unless changes are made to the system, benefits will need to be reduced by approximately 25% to equal revenues collected (Source: Social Security Administration, 2009).

• Life expectancies are continuing to increase. Average retirement ages have been decreasing, while life expectancies have been increasing. Currently, at age 65, the average life expectancy is 82 years for a man and 85 years for a woman, compared to 78 years for a man and 81 years for a woman in 1950 (Source: Journal of Financial Planning, August 2008).

• Plans for retirement have changed. Another common retirement planning rule of thumb is that you’ll need 70% of preretirement income during retirement. However, that guideline assumed a relatively inactive retirement lifestyle. Increasingly, retirees view retirement as a time to travel extensively or engage in expensive new hobbies. Thus, more and more retirees are finding little change in their income needs after retirement.

All these trends point to the fact that future retirees will be responsible for providing more of their income for a longer period of time. Thus, you should consider higher, not lower, savings rates. While 10% of income may sound like a lot of money, consider how many years you expect to work compared to how many years will be spent in retirement. Assume you start working at age 22, work until age 62, and then die at age 82. Thus, you work 40 years and are retired for 20 years — for every two years you work, you need to support yourself for one year in retirement. If your retirement expenses don’t go down and you don’t have a defined-benefit pension, you’ll need to save significant sums to support yourself for that length of time.

Contrast the current situation with a typical scenario in 1950. At that time, the average retiree worked 47 years before retiring for nine years. Thus, that person worked over five years to support one year of retirement.

For many people, then, the answer may be to extend their working years. In the above example, if you wait until age 70 instead of age 62 to retire, you will work for 48 years and be retired for 12 years. Thus, you will work four years for every year of retirement. While preretirees may not have the mathematics down, many realize that working longer, rather than retiring earlier, may be the only way to ensure that they don’t run out of retirement funds. Almost all recent surveys of baby boomers indicate that the majority expect to work at least part-time during retirement.

These stark realities don’t mean that you can’t retire, just that you need to plan carefully. Thus, you should start saving as much as possible, as soon as possible, for your retirement. Waiting even a few years to start saving can substantially increase the annual amount you need to save.

Trying to gauge whether your retirement savings are on track? While there’s nothing like going through a thorough analysis, you can take a quick look by adding up all your retirement assets and multiplying that balance by 3% or 4%. These withdrawal percentages should ensure that your retirement assets last for several decades.

Massachusetts Attorney General Martha Coakley joined the U.S. Federal Trade Commission (FTC) and 35 states in announcing an agreement with LifeLock, Inc., a Tempe, Arizona-based identity theft protection provider, resolving an investigation into the company’s misleading advertising practices. LifeLock has agreed to pay $11 million in restitution to consumers that will be distributed through a consumer redress program administered by the FTC.

“Our office has seen firsthand the type of damage that identity theft can inflict on a person’s life and there are many free resources that consumers can take advantage of to protect themselves,” said Attorney General Martha Coakley. “The best way to protect your personal information is to know who you are doing business with before giving out your personal information. We are pleased that consumers who purchased these so-called identity theft protection products will receive restitution under this settlement.”

The FTC and the states began jointly investigating LifeLock amid allegations that the company made a range of deceptive claims misleading consumers to believe its services were a “proven solution” to protect against all forms of identity theft, including criminal, mortgage and child identity theft. The settlement also resolves allegations that the company misrepresented the specific services it provided to protect or alert consumers when their personal information had been compromised.

LifeLock sells identity theft protection services which past advertisements claimed were “guaranteed” to protect consumers’ personal information and prevent criminals from using it to open accounts in their names. Some ads even included CEO Todd Davis’ Social Security Number, which Davis said, showed “how confident I am in LifeLock’s proactive identity theft protection.”

“For a fee, the LifeLock Identity Alert system can identify fraudulent applications for many forms of both credit and non-credit related services. These include many but not all retail credit cards, mortgage loans, and auto loans, as well as non-credit related transactions such as wireless services, utilities, check orders and reorders, and non-credit related payday loans. LifeLock will also opt-out members from pre-approved credit card offers on your behalf in order to reduce unwanted mail which can potentially expose your information in the first place.”1

LifeLock’s advertisements also implied that individuals with fraud alerts on their consumer reports will always receive a phone call prior to the opening of new accounts from his or her, when in fact a phone call is not required by federal law.

Under the agreement, LifeLock is prohibited from misrepresenting that its services:
Protect against all types of identity theft;

Constantly monitor activity on each of its customers’ consumer reports; Always prompt a call from a potential creditor before a new credit account is opened in the customer’s name; and Eliminate the risk of identity theft.

LifeLock is also prohibited from overstating the risk of identity theft to consumers, including whether a particular consumer has become or is likely to become a victim. Past marketing materials have warned consumers about their heightened risk of identity theft when LifeLock did not have information to warrant such a warning.

Federal and state laws provide consumers with a variety of free tools to help protect themselves against identity theft. Consumers who have a reasonable suspicion that they are or are about to become victims of identity theft can place free fraud alerts on their credit reports by contacting one of the three major credit reporting agencies. In addition, consumers can obtain free copies of their credit reports to review their own credit histories and identify errors and inaccuracies, such as unauthorized accounts. Consumers are also best-positioned to monitor their own bank accounts and credit card statements for unauthorized withdrawals or charges.

Consumers who believe they have been a victim of identity theft should file a complaint with the Federal Trade Commission. Additional information on identity theft can be found on Attorney General Coakley’s website.

States participating in today’s agreement include: Alaska, Arizona, California, Delaware, Florida, Hawaii, Idaho, Illinois, Indiana, Iowa, Kentucky, Maine, Maryland, Massachusetts, Michigan, Missouri, Mississippi, Montana, Nebraska, Nevada, New Mexico, New York, North Carolina, North Dakota, Ohio, Oregon, Pennsylvania, South Carolina, South Dakota, Tennessee, Texas, Vermont, Virginia, Washington and West Virginia.

Assistant Attorney General Scott Schafer, Chief of Attorney General Coakley’s Consumer Protection Division, and Assistant Attorney General Emily Armstrong, also of Attorney General Coakley’s Consumer Protection Division, handled this matter.

BOSTON – Attorney General Martha Coakley’s Office has reached a $3.6 million settlement agreement with Actavis Elizabeth LLC (“Actavis”), an Elizabeth, New Jersey-based pharmaceutical manufacturer, resolving a Massachusetts False Claims Act case pending in United States District Court in Boston.

“Actavis is an international generic pharmaceutical company based in Iceland that was founded in 1956 as Pharmaco. Listed on the Icelandic Stock Exchange until 2007, it was taken private by Novator Partners, an investment vehicle of the chairman Björgólfur Thor Björgólfsson.

In the late 1990s, Actavis employed fewer than one hundred people and operated solely in the Icelandic market. In 1999, Actavis acquired Bulgarian rival Balkanpharma, beginning a period of substantial growth.

Since then, Actavis has made 25 acquisitions and now operates in 40 countries and employees over 11,000 people. The Group has one of the broadest portfolios in the generics sector with over 650 products on the market, in addition to over 400 products in the development pipeline and in registration.

Actavis is currently among the five largest generic pharmaceutical companies in the world. Its turnover for 2006 is predicted to be 1,390 million euros, compared to 56 million euros in 1999.”1

The lawsuit alleged Actavis reported false and inflated prices to drug industry price reporting services, which caused the Massachusetts Medicaid Program to pay inflated amounts for ingredient costs on prescriptions for Medicaid recipients. The monies recovered will be returned to the Massachusetts Medicaid Program, MassHealth.

“The Massachusetts Medicaid Program provides critical health care services to thousands of Massachusetts residents. This settlement represents a positive step forward in our efforts to address false price reporting, an issue that continues to afflict the program,” Attorney General Coakley said. “Our office will continue to work with MassHealth and the federal government to maintain the integrity of the pharmaceutical reimbursement program and ensure that it is fair to all involved parties.”

Actavis is one of a group of 13 generic drug manufacturers the Commonwealth sued in 2003 for allegedly falsely inflating the prices they reported to national pharmaceutical price reporting services. The Commonwealth’s Medicaid Program uses prices reported by national price reporting services to determine what they will pay to pharmacies for ingredient costs in connection with prescription drugs.

The Commonwealth alleged that by reporting the false and inflated prices, the pharmaceutical companies caused the Medicaid Program to pay inflated amounts for ingredient costs for prescriptions for Medicaid recipients. Medicaid is a joint federal-state program which provides healthcare services, including prescription drugs, to low income and disabled persons.

The settlement resolves the Commonwealth’s claims related to the drugs that Actavis manufactured and sold during the years 1997 to 2003, including Clonazapam, Isosorbide Mononitrate and Lorazapam. In agreeing to the settlement, Actavis did not admit any wrongdoing and asserted that its price reporting was consistent with all legal standards. Actavis was formerly known as Purepac Pharmaceutical Co. and is a subsidiary of Actavis Group hf, an Icelandic firm that manufactures and sells generic drugs worldwide.

The Commonwealth has previously settled with nine other defendants in this case–Dey, Inc.; Barr Laboratories, Inc.; Duramed Pharmaceuticals, Inc; Ethex Corporation; Roxane Laboratories, Inc.; Teva Pharmaceuticals USA, Inc.; Ivax Corporation; Watson Pharma, Inc., and Watson Pharmaceuticals, Inc.–recovering a total of $16.7 million from those nine companies for the Massachusetts Medicaid Program. The case remains pending in federal court in Boston against three other defendants.

Attorney General Coakley’s office has established itself nationally as a leader in the fight against fraud, waste and abuse in the Medicaid program. The office’s Medicaid Fraud Division works to prevent and if necessary, prosecute provider fraud and violations of state law pertaining to fraud in the administration of the Medicaid Program.

The division often works collaboratively with other enforcement authorities in other states, as well as with federal enforcement authorities. Since Attorney General Coakley took office in 2007, the Medicaid Fraud Division has recovered over $134 million dollars for the Massachusetts Medicaid program. In 2009, the division achieved its third consecutive year of record-breaking recoveries, returning $51.6 million to the Medicaid Program, including multi-million dollar settlements with such pharmaceutical giants as Astra Zeneca, Eli Lilly & Co., and Pfizer Inc.

This case was prosecuted by Assistant Attorneys General Peter A. Mullin, Nathaniel Yeager, Robert P. Patten, Colleen A. McCarthy, John Pina III, Gregory H. Matthews, Robyn P. Dollar and Steven T. Sharobem, with assistance from Investigators Anthony Megathlin, John J. Walsh and Steven Devlin, all of Attorney General Coakley’s Medicaid Fraud Division, and with the cooperation and assistance of MassHealth and its staff.

There is a lot of misconception and misunderstanding amongst people regarding the social security benefits. Most of us who want to get social security benefits hardly know how one can maximize the benefits. Let’s check out seven things that one should know about social security:

Calculation of your social security benefit: The benefit that you receive from social security will be based on your highest 35 years of earnings. The number of years you work will matter. The years you did not work will be counted as 0. Thus, the more years you work and the more you earn, the greater will be your benefit.

Primary insurance amount: This is the amount that you would receive when you reach the full retirement age. You should know your primary insurance amount as your calculations for benefits would come from this figure. You can find this figure from your annual Social Security mailing or by visiting www.ssa.gov.

Benefit in case of married couple: If one of the spouse begins taking social security benefits and you’re 62 or more of age, you will be able to apply for your own benefit. You should remember that if your spouse receives more than double of your primary insurance amount, then you may be able to apply for a portion of your own benefit as well as a portion of your spouse’s benefit.

Benefits in case of divorced couple: If you’re 62 years of age, were married to someone for 10 years and your ex-spouse starts taking social security benefits, then you would be able to apply for your own benefit. If your primary insurance amount is less than half of your ex-spouse’s, you can apply for your own benefit as well as a portion of your ex-spouse’s benefit. Multiple divorced spouses will be able to receive the same benefit without decreasing each others benefits.

Suspension of benefits: If you’re receiving social security benefit after your retirement at 62 and then decide to go back to work, you will be able to suspend your benefits. The additional years that you work will increase your benefit that you’ll receive once you start getting the benefit at a later period.

Survivor benefits: If a worker covered by Social Security dies, a surviving spouse can receive survivors’ benefits. In some instances, survivors’ benefits are available even to a divorced spouse. A father or mother with minor or disabled children in his or her care can receive benefits which are not actuarially reduced. The earliest age for a nondisabled widow(er)’s benefit is age 60.

The benefit is equal to the worker’s full retirement benefit for spouses who are at, or older than, normal retirement age. If the surviving spouse starts benefits before normal retirement age, there is an actuarial reduction. If the worker earned delayed retirement credits by waiting to start benefits after their normal retirement age, the surviving spouse will have those credits applied to their benefit.

According to the mortgage fit community, So basically, If you’re 60 years old (50 years in case of permanently disabled) and your spouse is deceased, you would be able to qualify for survivor benefits. This benefit would be equal to an “age-reduced portion” of your spouse’s benefit. It is same in case of your deceased ex-spouse to whom you were married for at least 10 years.

Losing the benefits: If you’re working and apply for social security benefits at age 62, you would lose $1 for every $2 that you earn over $14,160. If you apply for benefits after your full retirement, you can earn any amount you want without losing any benefit.

The Federal Insurance Contributions Act (FICA) (codified in the Internal Revenue Code) imposes a Social Security withholding tax equal to 6.20% of the gross wage amount, up to but not exceeding the Social Security Wage Base ($97,500 for 2007; $102,000 for 2008; and $106,800 for 2009). The same 6.20% tax is imposed on employers. For each calendar year for which the worker is assessed the FICA contribution, the SSA credits those wages as that year’s covered wages. The income cutoff is adjusted yearly for inflation and other factors.

A separate payroll tax of 1.45% of an employee’s income is paid directly by the employer, and an additional 1.45% deducted from the employee’s paycheck, yielding a total tax rate of 2.90%. There is no maximum limit on this portion of the tax. This portion of the tax is used to fund the Medicare program, which is primarily responsible for providing health benefits to retirees.

The combined tax rate of these two federal programs is 15.30% (7.65% paid by the employee and 7.65% paid by the employer).[1]

“The Mass Save Great Appliance Exchange is the latest example of the Commonwealth’s use of federal Recovery dollars to lower household energy costs, cut energy waste and reduce greenhouse gas emissions,” said Governor Deval Patrick. “I am delighted that launching this program will be part of our celebration of the 40th anniversary of Earth Day.”

Earth Day is a day to promote awareness and appreciation for the Earth’s environment. It is on 22 April. It was founded by U.S. Senator Gaylord Nelson (D-Wisconsin) as an environmental teach-in in 1970 and is celebrated in many countries every year. The first Earth Day was in 1970. Earth Day is spring in the Northern Hemisphere and autumn in the Southern Hemisphere.

The United Nations celebrates Earth Day each year on the March equinox, which is often 20 March. This is a tradition which was founded by peace activist John McConnell in 1969. The United Nations first celebrated Earth Day on the March equinox in 1971. This was also the first time ever that the United Nations celebrated Earth Day. The Earth Day on the March equinox was also in 1970. Earth Day is similar to World Environment Day.[1]

“Through the assistance and support of federal stimulus funds, we encourage our residents to use this state rebate program as a resource to help them cut costs and save money for their household needs while also promoting energy efficiency and protecting the environment,” said Lieutenant Governor Timothy Murray.

The American Recovery and Reinvestment Act (ARRA) allocated $6.2 million to Massachusetts to administer an Energy Efficient Appliance Rebate Program designed to spur significant household energy savings by taking high energy consuming home appliances out of commission and replacing them with qualified ENERGY STAR models.

“Swapping electricity-guzzling refrigerators, freezers, clothes washers and dishwashers for super-efficient new ones will cut energy use across the state, saving consumers money on monthly utility bills for years to come, while protecting our environment through lower energy use,” said Secretary Bowles.

EEA’s Department of Energy Resources (DOER) estimates that 27,000 inefficient appliances will be taken out of service as a result of the program, meaning Massachusetts residents will use 2.6 million fewer kilowatt hours of electricity annually – the annual equivalent of eliminating 4.3 million pounds of carbon dioxide and enough energy to power 340 households for one year. This program is being administered by the DOER in partnership with retailers, utilities and energy efficiency service providers.

“This program is a benefit to both consumers and the environment,” said Barbara Anthony, the Undersecretary of the Office of Consumer Affairs and Business Regulation. “Buying a big household appliance is a big financial decision for families, especially during our economic recovery. This program provides a great incentive for consumers to make that purchase, and do it in a positive way for the environment.”

Initial instructions for taking part in the Massachusetts program – dubbed the “Mass Save Great Appliance Exchange” – are now posted at www.masssave.com/gax. By visiting the site, consumers can obtain an overview of the rebate process. In coming weeks, the site will include a list of refrigerator, dishwasher, clothes washer and freezer models that will be eligible for the rebate in April. The program will continue as long as rebate supplies last, on a “first come, first served” basis.

To ensure that the process is managed fairly, consumers will be required to make an advance reservation via www.masssave.com/gax. Eligible consumers will also be required to turn in their inefficient appliances. Returned appliances must be working when exchanged for more efficient models, and, once returned, will be taken out of service. Only Massachusetts residents will be eligible for these rebates.

A final, searchable list of eligible appliance models and other details of the Mass Save Great Appliance Exchange, including rebate amounts for each appliance type and how to participate, will be posted on www.masssave.com/gax on March 22.

“These rebates are the proverbial offer you can’t refuse. They’re incentives that will help consumers across Massachusetts save money, make their homes energy efficient, and protect our environment. This is exactly the kind of investment we intended when we passed the Recovery Act and the 40th Anniversary of Earth Day is the perfect time to start such an initiative,” said Senator John Kerry.

“Massachusetts families continue to be squeezed by rising medical, education and energy costs. This rebate program puts federal Recovery Act funds to use assisting households in purchasing efficient every-day appliances that will reduce energy costs for families while also reducing our dependence on foreign energy sources and protecting our environment. I applaud the Commonwealth’s kick-off of this program on Earth Day,” said Congressman John F. Tierney.

“This federal recovery-funded program comes on the heels of our recent announcement of unprecedented energy efficiency investments under the Green Communities Act that make Massachusetts the national leader in commitment to energy efficiency and will result in $6 billion in savings to ratepayers over the next three years,” DOER Commissioner Phil Giudice said. “Taken together, all of these efforts move us closer to meeting Governor Patrick’s nation-leading goals to reduce greenhouse gas emissions, save on energy costs and build our clean energy economy.”

Investment in energy efficiency is a critical component of Governor Patrick’s Massachusetts Recovery Plan, which combines state, federal and, where possible, private efforts to provide immediate and long-term relief and position the Commonwealth for recovery in the following ways:

Deliver immediate relief by investing in the road, bridge and rail projects that put people to work today and providing safety net services that sustain people who are especially vulnerable during an economic crisis;

Build a better tomorrow through education and infrastructure investments that strengthen our economic competitiveness, prepare workers for the jobs of the future, and support clean energy, broadband, and technology projects that cut costs while growing the economy; and Reform state government by eliminating the pension and ethics loopholes that discredit the work of government and revitalize the transportation networks that have suffered from decades of neglect and inaction.

Photo by David Paul Ohmer. All Rights Reserved.

Governor Deval Patrick today announced that the Commonwealth’s bond ratings have been affirmed by the three major rating agencies, all of whom cited the Governor’s responsible and proactive stewardship of the Commonwealth’s finances during the current economic downturn as a leading credit strength.

Fitch Ratings, Moody’s Investors Service and Standard & Poor’s all affirmed the Commonwealth’s credit ratings at AA, Aa2, and AA, respectively, with a stable outlook.
“It is welcome news today that the ratings agencies have again affirmed our AA bond rating,” said Governor Patrick.

“The Fitch Group (technically, Fitch, Inc.) is a financial corporation whose divisions include Fitch Solutions, an advisory firm offering products and services to the financial industry, established in January 2008 partly following the criticism on Rating Agencies; Algorithmics Inc., the risk management software vendor and research firm; and Fitch Ratings, Ltd.

Fitch Ratings is an international credit rating agency dual-headquartered in New York City and London. It was one of the three Nationally Recognized Statistical Rating Organizations (NRSRO) designated by the U.S. Securities and Exchange Commission in 1975, together with Moody’s and Standard & Poor’s.

The firm was founded by John Knowles Fitch on December 24, 1913 in New York City as the Fitch Publishing Company. It merged with London-based IBCA Limited in December 1997, and is majority-owned by Fimalac (From the French Wikipedia: Fimalac), a French holding company. In 2000 Fitch acquired both Chicago-based Duff & Phelps Credit Rating Co. (April) and Thomson Financial BankWatch (December).

Fitch is the smallest of the “big three” NRSROs, covering a more limited share of the market than S&P and Moody’s, though it has grown with acquisitions and frequently positions itself as a “tie-breaker” when the other two agencies have ratings similar, but not equal, in scale.”[1]

“Maintaining this rating allows us to make critical investments in our schools, roads and bridges, and housing while saving taxpayers money. We will continue to manage state finances in a fiscally responsible way, as we have throughout these challenging times, in order to maintain our rating and our ability to make much-needed investments.”

“The re-affirmation of the Commonwealth’s AA bond rating cites our administration’s active and responsible management of the state’s finances during very challenging fiscal times,” said Lieutenant Governor Timothy Murray. “This rating also demonstrates that our administration has been a good fiscal steward of the taxpayers’ money as we continue to support critical investments in our Commonwealth’s future.”

Moody’s cites as the first credit strength of the Commonwealth, “Effective management during economic downturns, with a willingness and ability to promptly identify and close gaps through use of both new revenues and spending reductions.”

A number of states have seen their credit rating downgraded over the last two years, as the global recession impacts state revenue collections and leaders are forced to respond. Moody’s has downgraded states, including Arizona, California, Illinois, Nevada, Ohio and Rhode Island, with an additional 6 states placed on negative watch. Over the same period, Fitch has downgraded California, Connecticut, Illinois, Michigan, Ohio and Rhode Island, and placed an additional four states on negative outlook. At the same time, Massachusetts has maintained its positive bond rating with a stable outlook, thanks to the successful budget management of the Governor and the Legislature.

“The key is that the Governor and the Legislature have worked together to address this unprecedented fiscal downturn in a prudent way,” said Senate Ways and Means Chairman Senator Steven Panagiotakos. “And because of that, the rating agencies have confidence in our ability to properly handle this economic crisis into the future.”

“Just as a good credit score is important to families across Massachusetts who might be seeking a mortgage, a strong bond rating allows the state to borrow and finance at reduced rates,” said Charles Murphy, Chairman of the House Committee on Ways and Means. “Today’s news confirms that the decisions we have made over the past year, while difficult, have been in the best interests of the Commonwealth.”

In affirming the Commonwealth’s bond rating, Fitch acknowledges the Governor’s “record of prudent financial management” and says its “key rating driver” is the Governor’s “continued timely action to ensure budget balance and maintenance of an adequate budgeted reserve position to protect against further downside risk.”

Standard & Poor’s explains that its stable outlook for the Commonwealth reflects the Administration’s “proactive approach to managing budget volatility throughout this recession. Revenue adjustments have been frequent and gap-closing actions have been swift, successfully restoring balance. While diminished, the budget stabilization fund retains a balance that will continue to provide flexibility to manage the current fluid revenue environment.”

Working collaboratively with the Legislature, the Governor has solved budget shortfalls totaling billions of dollars since the recession began.

“The rating affirmations are a testament to the Governor’s continued responsible fiscal management of state finances, particularly during these unprecedented challenging times,” said Administration and Finance Secretary Jay Gonzalez. “While other states have been downgraded or have been placed on negative watch, Massachusetts continues to earn approval for its management. This means we can continue to make critical investments at a lower cost to taxpayers, creating new jobs and securing our economic future.”

Each of the three agencies note that while the state budget during the economic downturn has relied in part on Rainy Day Funds, we have maintained a healthy balance. Moody’s notes that in Massachusetts, “a larger portion of those reserves are still available compared to other large states at this rating level. While the reserve is significantly depleted from a peak of $2.3 billion at the close of fiscal 2007, it is still sizeable enough to provide a cushion against future revenue shortfalls and unforeseen spending needs.”

The Commonwealth has upheld an ‘AA’ bond rating on its General Obligation Bonds throughout the unprecedented global economic downturn. Rating agencies conduct independent assessments of the Commonwealth’s creditworthiness based on relevant risk factors. The Commonwealth’s ratings are based on its ability to repay fully the principal and interest of its short-term or long-term debt obligations, on a timely basis.

For General Obligation bonds, ratings are based primarily on four main factors: the economy, the issuer’s financial position, the issuer’s current and future debt burden, and financial management.

There is a connection between fiat currencies and trade deficits, and many cynics have argued that the US dollar’s status as global reserve currency allowed Americans to consume more than they produced for decades. However, this “deficit without tears” argument is sometimes overstated. To gain a deeper understanding of both monetary theory and international trade, it’s useful to probe the issue more carefully.

Does Fiat Money Cause Trade Deficits?

In his book, The Creature from Jekyll Island, G. Edward Griffin is rightfully suspicious of the American trade deficit and the US dollar’s special role in the world since World War II. He explains,

When the dollar was separated entirely from gold in 1971, it ceased being the official IMF world currency and finally had to compete with other currencies.… From that point forward, its value increasingly became discounted. Nevertheless, it was still the preferred medium of exchange. Also, the U.S. was one of the safest places in the world to invest one’s money. But, to do so, one first had to convert his native currency into dollars. These facts gave the U.S. dollar greater value on international markets than it otherwise would have merited. So, in spite of the fact that the Federal Reserve was creating huge amounts of money during this time, the demand for it by foreigners was seemingly limitless. The result is that America has continued to finance its trade deficit with fiat money — counterfeit, if you will — a feat which no other nation in the world could hope to accomplish.

“The term fiat money is used to mean:

any money declared by a government to be legal tender.

state-issued money which is neither legally convertible to any other thing, nor fixed in value in terms of any objective standard.

The term derives from the Latin fiat, meaning “let it be done”. Where fiat money is used as currency, the term fiat currency is used. Today, most national currencies are fiat currencies, including the US dollar, the euro, and all other reserve currencies.[1]”

“Griffin then explains the benefits to Americans from this arrangement. After all, it’s not too shabby to import cars, clothes, and fancy electronics in exchange for green pieces of paper. Yet all is not bliss:

There is a dark side to the exchange, however. As long as the dollar remains in high esteem as a trade currency, America can continue to spend more than it earns. But when the day arrives — as it certainly must — when the dollar tumbles and foreigners no longer want it, the free ride will be over. When that happens, hundreds of billions of dollars that are now resting in foreign countries will quickly come back to our shores as people everywhere in the world attempt to convert them into yet more real estate, factories, and tangible products.… As this flood of dollars bids up prices, we will finally experience the [price] inflation that should have been caused in years past. (p. 94, emphasis in original)
So far, I am largely in agreement with Griffin. But then he oversteps, or at least appears to, when he concludes,

The chickens will come home to roost. But, when they do, it will not be because of the trade deficit. It will be because we were able to finance the trade deficit with fiat money created by the Federal Reserve. If it were not for that, the trade deficit could not have happened. (p. 94, emphasis in original)

It’s not clear whether Griffin thinks the trade deficit would have been literally zero if the United States had used gold as money throughout the 20th century, or (more likely) if Griffin merely means that in practice the trade deficit would have been much smaller.

Regardless of Griffin’s particular stance, there are definitely some members of the sound-money community who believe that trade deficits would literally be impossible if all countries were on a gold standard. That’s incorrect, as I’ll argue in the next section. After that, I will reconcile my own demonstration with Griffin’s quite valid linking of the fiat US dollar with unsustainable American trade deficits.

Gold Doesn’t Prevent Trade Deficits

One quick way to see a puzzle in Griffin’s analysis above is that the reasons for the appeal of the US dollar would only be enhanced by a return to gold. Griffin says that foreigners still esteemed the dollar over other currencies, and that the US was the safest place to invest money. If the Treasury or Fed credibly announced that henceforth the dollar would once again be redeemable for a fixed weight of gold, surely investors would flock to it even more so. It would be much safer to buy a government or even corporate bond issued in the United States knowing that the gold standard would restrain further dollar creation.

When economists compute the trade balance (or more accurately the current account), they don’t include the sale of financial assets. So if foreign investors want to spend more (once we convert to a common denominator) on American assets than US investors want to spend on foreign assets, the trade balance is negative. The capital-account surplus is counterbalanced by a current-account deficit.

For example, suppose Americans buy $9.5 trillion in stocks, bonds, and other financial assets from outside the United States, while non-Americans acquire ownership of $10 trillion worth of stocks, bonds, and other financial assets from within the United States. This means the foreigners have on net gained $500 billion of American wealth. Surely the foreigners need to do something in return, and indeed they do: they send Americans $500 billion worth of cars, TVs, iPods, etc.

Tying the dollar to gold, or, better yet, abolishing the government’s involvement in money and banking completely, would make the United States an even stronger magnet for foreign investment. It’s possible that the absolute size of the trade deficit would fall (as we will explain in the next section), but it wouldn’t disappear.

In fact, if the US government not only returned the dollar to gold, but also eliminated the IRS and slashed its budget, it’s possible that the US trade deficit would mushroom. This would make perfect sense, as capital from around the world would flow to the new haven where its (after-tax) returns would be much higher.

In this scenario, aliens in space would see tractors, computers, factory parts, bulldozers, and crude oil flowing from all corners of the earth to the United States. If those aliens understood trade accounting, they would compute this massive net inflow of goods as an unprecedented trade deficit. But of course that is exactly what should happen if the United States (or any country) adopted free-market reforms and thereby became a much more hospitable arena for economic activity.

Why Griffin Is Basically Correct

Even though a few of Griffin’s sentences might lead one to draw faulty conclusions, nonetheless Griffin’s analysis is basically correct. All we really did in the above section was show that a large trade deficit can be consistent with a healthy, productive economy. That’s far different from saying a trade deficit is proof of a solid arrangement.

Specifically, the problem occurs because foreigners can invest in “American assets” to fuel either production or consumption. It’s true, if the US government enacted the reforms discussed above, then foreigners would invest heavily in American industry. Corporations would float new bonds and issue new stock, and with the influx of funds they could rapidly expand their operations. In terms of physical goods, we would see heavy equipment and raw materials flowing from other countries into the United States, and these inflows of capital goods would constitute a large part of the rising trade deficit.

Unfortunately, there is another possibility. If the Federal Reserve creates hundreds of billions in new dollars out of thin air, and the foreign “investors” are other central banks that gobble up the dollars because their own rules treat them as reserves, then this increase in the foreign demand for “American assets” is of a much-different character.

In particular, the low US interest rates that accompany such a gusher of new dollars will encourage domestic consumption and will discourage foreigners in the private sector from investing in the United States. The rest of the world will acquire American assets all right, but they will be more heavily tilted toward debt (rather than equity in growing companies). The physical goods flowing into the United States will be consumer goods such as TVs and iPods.

Griffin is perfectly correct that this type of mushrooming trade deficit is indeed unsustainable. Unlike the importation of tractors and crude oil, the influx of consumer electronics doesn’t allow the US economy to produce more in the future.

The increase in foreign claims on US income streams therefore isn’t a constant or shrinking portion of the growing American pie, but rather is a growing portion of a constant pie. It can be sustainable for the absolute dollar amount of US corporations’ outstanding bonds to increase over time, so long as earnings and profits increase proportionately. But it is not sustainable if households and the government experience a rising debt-to-income level.

Conclusion

There is a definite connection between fiat currencies and trade deficits. Critics of the Federal Reserve are right to blame it for distorting trade flows and setting the US economy up for an inflationary crash. However, a trade deficit per se is not a sign of a bad economy. Indeed the trade deficit might blossom if the US ever returned to the gold standard, though it would be due to a productive net inflow of producer goods.

Story Contributed in part by Economist Robert P. Murphy.

“In the United States alone, consumers spent about US $110 billion on fast food in 2000 (which increased from US$6 billion in 1970). The National Restaurant Association forecasted that fast food restaurants in the U.S. would reach US$142 billion in sales in 2006, a 5% increase over 2005. In comparison, the full-service restaurant segment of the food industry is expected to generate $173 billion in sales. Fast food has been losing market share to fast casual dining restaurants, which offer more robust and expensive cuisines.”

Economist Jeffrey Tucker is reporting that, “McDonald’s (NASDAQ:MCD) reported sales increases of 4.8 last month. Most of the increases are overseas but it is no surprise that its domestic sales are solid as can be.

Their new coffees, which now include frozen drinks, are a close competitor to Starbucks, and in buying them you don’t have to endure a lecture about how you are doing your part to save the planet.

For breakfast, you can get a traditional biscuit or croissant with sausage or move into the new line that includes a fruit parfait for a buck (how is this possible?) or an apple-walnut salad. This stuff is amazing.

And I would compare their Angus burger next to any hamburger in a fancy restaurant that costs twice as much.

This is a company that knows how to market, how to adapt, how to change. And in my town, the McDonald’s is the happiest place around. They offer wi-fi and smiling employees who are quick with a quip and a smile. The place is full of energy and life and is teeming with the sense of progress.

Meanwhile, Burger King’s sales slipped 8.2% in January and February. Corporate headquarters blames bad weather. They ought to be looking more carefully at their menu. They are only now catching up to the wonderful Angus Burger with a new offering called a steakburger or something like that. But even now, they lack the coffees and fruity breakfast choices.

Still, there is something to admire about both companies. They are responsive to the consumer, and the employees at both places must deal with the most demanding consumers you can imagine. If only one thing goes wrong, they are going to hear about it. People demand more ketchup than they will use, fill up their drinks eight times, and start yelling if the meal they ordered doesn’t appear in 10 seconds.

To be sure, there is a strange way in which Burger King is the benefactor of McDonalds and visa versa. The existence of competition inspires emulation (good!) and the striving for excellence (good!) and an overall increase in the demand for the product they both offer. So, yes, they are competitors but they are also cooperators in a great industry.

It always amazes me how demanding Americans can be toward private enterprise. Everything must be 100% correct or the customer flips out. But put these same people in line at the post office or the customs line at the airport and they become complacent slaves doing everything they are told. They don’t even complain about it.

It’s as if our expectations are different and we are okay with that. We expect the government to be slow, rude, abusive, unreasonable, and unresponsive and we adapt ourselves to that and figure that this is what is necessary for security or the general welfare or whatever. We let them have our money and our lives and call it a day.

But when we enter private businesses, we have the opposite way about us. Everything must go our way. We suffer no fools. We demand to speak to the management right now! and so on. Yes, it is bizarre, but it is part of the socialization we endure in our mixed economic system. We live double lives – one for the real economy and one for the phony economy.

One nice step would be to at least allow the same level of competition in public services that we have in private services. Where is the McDonalds vs. the Burger King when it comes to the Customs Bureau or the Courthouse? It would not be a real market but at least it would interject some life into this static world of the public sector.

And yet, it remains as Mises said: there is no real competition without prices and private property. All the rest is just playing market. The burger companies are struggling every day to get ahead. It is a glorious thing to see, and a model for the way the entire world ought to work.”