AEI Idea's for Fighting Crony Capital

from AEI

Federal policy often tilts the playing field, picks winners and losers, and rewards well-connected insiders, contributing to the public perception that the ‘game’ is rigged and harming economic growth. AEI scholars have identified a few policy changes that lawmakers can pursue if they want to combat cronyism and corporate welfare.

Policymakers in both major US political parties have increasingly condemned “crony capitalism” and “corporate welfare.” Many House and Senate candidates in the 2010, 2012, and 2014 election cycles gained considerable support by promising to combat policies that favor narrow interests at the expense of the broader public interest.

There is plenty of debate as to what counts as corporate welfare and crony capitalism, and there is no consensus definition for either of these words. But they are real phenomena: much federal policy tilts the playing field, picks winners and losers, and rewards well-connected insiders. This contributes to the public perception that the “game” is rigged and harms economic growth and innovation.

Scholars at the American Enterprise Institute have identified a few policy changes lawmakers can pursue if they want to combat cronyism and corporate welfare. There are dozens of programs, policies, and tax provisions beyond those mentioned here that could count as crony capitalism or corporate welfare. The ones here are just a start.

AEI does not take institutional positions on these issues, and often AEI scholars disagree. Each of these items represents the views of individual scholars.

Health Care

Repeal Obamacare’s Insurer Bailout (“Risk Corridors”), or Make It Budget Neutral. The Affordable Care Act (ACA) distorts the marketplace by promising open-ended subsidization of insurer losses from policies sold on the law’s federal and state exchanges. Insurers are taking more risk and cutting their premiums to gain market share because they know the federal government will pick up the tab if they experience large losses. The effect of this policy is to force taxpayers to provide a backdoor subsidy of insurance companies. Eliminating this subsidy would push insurers toward more realistic pricing of their products, AEI Visiting Scholar James Capretta argues.

AEI Resident Fellow Thomas Miller says Congress could leave the risk corridors in place but protect taxpayers by making them budget neutral.

End the Individual Mandate. The individual mandate forces people to buy a product from a private industry even if they do not want to buy it. This is the epitome of corporate welfare, Miller argues. Miller suggests Congress should repeal the individual mandate and provide other incentives for individuals to remain covered, such as protections against rate hikes or exclusions for changes in health status for anyone who maintains continuous insurance coverage.

Take Away States’ Exclusion Authority. Under the ACA, states can bar otherwise qualified and licensed insurers from offering policies on the exchanges. This authority allows states to protect incumbent providers and stifle competition. Capretta believes it should be eliminated.

End Guaranteed Payments, and Reform the Doctor Cartel. Various health laws provide unwarranted market protections for some suppliers of services. Among them are required payment rates by Medicaid programs for so-called Federally Qualified Health Centers and indirect and direct subsidization of a limited number of hospitals and medical schools through Medicare. Medicare and Medicaid law could be scrubbed for other unjustified distortions of the marketplace, Capretta argues.

Joseph Antos, AEI’s Wilson H. Taylor Scholar in Health Care and Retirement Policy, suggests that Congress could increase the supply of doctors by adopting a national compact recognizing doctors’ medical credentials wherever they were issued and allowing them to practice across state lines.

Energy

End the Ethanol Mandate and Ethanol Tax Breaks. The ethanol mandate (Renewable Fuel Standard) picks winners and losers in the fuel market. It is likely to drive up prices for drivers, ranchers, and grocery shoppers. It seems to add to contamination of water, too.

Congress could fix these problems by killing the mandate, argues AEI Resident Scholar Ben Zycher. Congress should also end the cellulosic biofuel producer tax credit, the alternative fuel mixture tax credit, the alternative fuel infrastructure tax credit, and the special depreciation allowance for cellulosic biofuel plant property.

End Renewable Energy Subsidies. Congress has created many programs to subsidize alternative sources of electricity, such as wind and solar. Although Congress should insure it does not block innovative technologies, “green energy” subsidies distort the market, waste taxpayer dollars, and benefit the companies selling a product at a price higher than market forces would support. Congress could alleviate these harms, Zycher argues, by refusing to resuscitate the production tax credit, ending all government loans and loan guarantees for renewable energy. To aid innovation in this regard, Congress could explore opportunities to support basic research on renewable-energy technologies that are not patentable.

End Oil Subsidies. Oil production suffers from federal restrictions, but that alone does not justify federal subsidies for oil. Congress could create a level playing field in energy by killing both the enhanced oil recovery tax credit and the marginal well production tax credit, Zycher suggests.

Also, foreign oil exploration may receive a tax benefit because foreign royalties are often treated as foreign corporate income tax, thus making them eligible for a tax credit instead of a deduction. Zycher suggests Congress could fix this loophole. (At the same time, oil producers face a risk that producers of ethanol and renewables do not: the possible imposition of price controls, whether explicit or implicit, during a future international supply disruption, increasing prices sharply. These subsidies might serve as a rough offset for this problem.)

Taxes

Make Corporate Taxes Simpler, Lower, and More Neutral. The corporate tax system generates a small fraction of the total share of federal revenues yet disproportionately harms the US economy. The cause is twofold: the high 35 percent federal corporate statutory rate and the myriad of special preferences that litter the corporate tax code. AEI Resident Fellow Alex Brill argues that tax simplification, tax neutrality, fewer corporate tax preferences, and a lower corporate tax rate are sound strategies for encouraging growth.

Reform the Research and Development Tax Credit. The Section 41 Research and Experimentation Tax Credit (the R&D tax credit) was established in 1981 to incentivize private-sector research and development. That is arguably a laudable goal, and a feasible one. But the current R&D tax credit, argues AEI Resident Scholar Stan Veuger, is designed quite poorly — largely because it came into being as a temporary measure. Now, it effectively subsidizes some firms’ R&D at 25 percent while taxing other firms’ R&D at almost 25 percent. Congress could eliminate this unfairness by scrapping the current credit and, if it wants to encourage R&D, crafting a new one from scratch.

Finance

Abolish or Rein in Fannie Mae and Freddie Mac. Fannie Mae and Freddie Mac have forced a systemic industry-wide loosening of underwriting standards, which was the major cause of the US financial crisis, argues Edward Pinto, codirector of AEI’s International Center on Housing Risk. Pinto says Congress could protect the housing market from future instability by abolishing the bailed-out government-sponsored enterprises and pulling the government out of at least 80 percent of the housing finance market. If Congress decides to provide favorable financing terms for low-income borrowers, it can do so in a transparent and fiscally responsible manner, in contrast to doing it through Fannie and Freddie.

AEI Resident Fellow Alex Pollock agrees that Fannie and Freddie are prime examples of cronyism. Through these GSEs, a complex web of politicians and their constituents, investors, the housing industry, securities firms, and recipients of off-budget affordable housing subsidies all benefit from the economic rents created by organizations that run on the taxpayers’ credit with little or no capital and excessive leverage. Even after taxpayers bailed out Fannie and Freddie, the 2010 Dodd-Frank Act did not address these problems.

Fannie and Freddie reform bills have grown long and complex, but Pollock’s recommendation is not complex: simply treat Fannie and Freddie exactly the same as all big banks. That means imposing the same capital requirements, the same requirement to pay the government for its support of their debt, the same designation as a systemically important financial institution (SIFI), the same tax treatment, and the same prudential and consumer protection regulation. This would take away Fannie and Freddie’s unique privileges and make them as private as every other big bank. Fannie and Freddie should thus become only two of many competitors, instead of the utterly dominant duopolists they have been.

Shrink the Moat of Regulations That Protects Big Banks from Competition. Excessive regulation is often the most effective crony capitalism. After Congress passed Dodd-Frank in 2010, JPMorgan Chase Chairman Jamie Dimon said that regulation was good for his bank because it builds a “bigger moat” against competition. He noted that the heavy regulation in the act was a negative for JPMorgan Chase, but not as much as it was for smaller banks that have to bear relatively higher regulatory costs to compete on a level playing field. Peter Wallison, codirector of AEI’s program on financial policy studies, suggests Congress open banking up to more competition by repealing regulations that give large incumbent banks advantages over smaller ones.

Kill Dodd-Frank’s Too-Big-to-Fail Designation. Dodd-Frank established the Financial Stability Oversight Council (FSOC), made up of all the federal financial regulators, and gave it the authority to designate nonbank financial firms such as insurance companies as SIFIs. There are no known standards for designation, but the law says that the FSOC should designate those firms whose “material distress” could cause “instability” in the US financial system.

That is simply another way of saying that these firm are “too big to fail.” Thus, Robert Benmosche, then-chairman of AIG, said his firm’s SIFI designation was great news, thinking of it as a “seal of approval” from the government. The SIFI designation undoubtedly imposes costs on the regulated, but it also may act as a moat, protecting the big guys from competition.

If large companies begin to take this attitude, there will be many more designations. That would be fine with the government, which wants more power, and with the large financial companies that want the government’s seal of approval, but this would create in every financial industry — including insurance, securities, and asset management — the same problems the government has created in banking.

Large companies regulated by the Fed because they are considered too big to fail will get favorable treatment from creditors because these firms will be seen as protected by the government, warns Wallison. Competition in all these industries will suffer. Before the FSOC does further harm to competition, Congress should repeal its authority to designate large financial firms as SIFIs.

Trade

Kill the Export-Import Bank. The Export-Import Bank (Ex-Im) is the official export credit agency of the United States. It finances the exports of American companies through taxpayer-backed loan guarantees, among other means. It is the very definition of corporate welfare, argues AEI Resident Scholar Michael Strain. US taxpayers should not be on the hook so that large US companies have an easier time finding foreign customers for their products. The distortions Ex-Im creates raise costs for nonsubsidized businesses.

Congress could end these distortions and cronyism by winding down Ex-Im, Strain adds. Instead of a full reauthorization of the agency this year, Congress could pass a sunset bill for the agency, setting a date certain for the agency’s termination, prohibiting Ex-Im from offering new credits, and limiting the agency’s activity to management of deals already authorized. “If you oppose corporate welfare and crony capitalism,” Strain says, “you should welcome this outcome.”

Abolish the Overseas Private Investment Corporation. The Overseas Private Investment Corporation (OPIC) is a federal agency that subsidizes US companies with taxpayer-backed financing when they set up business overseas. It places taxpayers at risk and creates inefficiencies by steering capital toward politically favored activities. It is private profit built on public risk. Congress could wind down OPIC by barring all new deals and giving the Department of Commerce authority to administer all outstanding deals previously approved.

Repeal the Jones Act. A century-old shipping law known as the Jones Act is an outdated and harmful protectionist policy, argues AEI Scholar Mark Perry. The 1920 Jones Act requires that any shipment of goods from one US port to another be transported only on US-flagged vessels built in the US, owned by US citizens, and operated by a crew of US citizens. In other words, this is pure protectionism for the domestic shipping industry, which has not had to face any lower-cost foreign competition for almost 100 years. This drastically increases costs for American businesses and consumers.

Especially in a new era of energy abundance in America, the Jones Act is an unnecessary relic of the past, Perry argues. A change in policy that would allow foreign-flagged tankers to transport light sweet crude oil from Gulf of Mexico ports in Texas and Louisiana to East Coast refineries for one-third the current cost of Jones Act vessels would save millions of dollars in transportation expenses for US oil companies and would lower energy costs for American consumers.

The next logical step, Perry says, would be to lift the outdated ban on US crude oil exports and allow market forces to allocate America’s abundant energy resources.

Agriculture

End the Sugar Program. The US sugar program ensures consumers pay, on average, an additional $3 billion a year for the sugar they use. The benefit goes to a relatively small number of sugar beet and sugar cane producers.

Although the cost of the US sugar program to the average American household is only about $25 a year, the benefits to sugar processors and sugar beet and cane farmers is substantial. Through price supports and import restrictions, the US sugar program increases the prices of those beets by several dollars per ton.

The biggest victims of the program are businesses that use sugar. The food processing industry, for instance, has been severely hampered with respect to its competitiveness with processed food imports and in key export markets, with employment losses estimated in the tens of thousands of jobs.

Congress could end these distortions, argues AEI Visiting Scholar Vincent Smith, and save consumers money by winding down the sugar program over the next two years.

Reform or Abolish the Federal Crop Insurance Program. Every year, as the US Government Accountability Office has reported, a substantial number of wealthy farmers and land owners receive individual crop insurance premium subsidies in excess — and, in many cases, well in excess — of $100,000. The owners of some very large farms are given taxpayer-funded annual premium subsidies of more than $1 million.

Although large farmers benefit along with the financial institutions that issue the subsidized insurance, the federal crop insurance program is a disaster from a broader social-welfare perspective, argues Smith. Not only does the program transfer taxpayer funds to wealthy farmers and landowners, but it also encourages economic waste: for example, farmers who purchase the heavily subsidized crop insurance products use fewer inputs that reduce their risk of crop loss.

Moreover, partly because of provisions in the 2014 Farm Bill, the federal crop insurance program is anything but transparent with respect to who receives the subsidies and in what amounts. At the very least, Congress should enhance transparency in the crop insurance program, Smith argues. Ideally, Congress should stop subsidizing crop insurance altogether.

Conclusion

Many more policies could qualify as corporate welfare or crony capitalism. These are just a few that AEI scholars identified as particularly distorting, unneeded, or easy to remedy.

Fighting crony capitalism and corporate welfare today mostly involves repealing old policies. Going forward, the best way to avoid such special-interest favors is to apply a test of neutrality to future policies: Is Congress choosing one company, industry, or technology instead of leaving the choice to market actors?

Doesn't go nearly far enough, if you ask me. It's ALL cosmetics to protect the corporate interest.