Mish's Global Economic Trend Analysis

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• Amazon May Cut Ties to California Over Tax Issues; Texas Distribution Site Closed Over Similar Issues Last Month; Litigation Issues Move to Forefront
• Roubini-Founded Consulting Firm Sees $100 Billion in Muni Defaults, Says Current Assumptions "Pollyannaish"; FDIC "Shock Testing" Includes Munis
• USA Incorporated - a Look at the Grim Financial Situation of the USA

Amazon May Cut Ties to California Over Tax Issues; Texas Distribution Site Closed Over Similar Issues Last Month; Litigation Issues Move to Forefront Posted: 02 Mar 2011 08:25 PM PST Cash strapped states are furious with Amazon.Com over sales tax collections. Several states passed laws or have sent Amazon bills. Amazon's response in every case so far is to leave the state. Amazon to close Texas distribution center amid sales tax fight The Statesman reports Amazon to close Texas distribution center amid sales tax fight Online retail giant Amazon.com will close its suburban Dallas distribution center amid a dispute with the state over millions in uncollected state sales taxes, The Associated Press reported Thursday. The AP obtained an e-mail Thursday sent to Amazon employees by Dave Clark, the company's vice president of operations. Clark wrote that the center in Irving will close April 12 because of the state's "unfavorable regulatory climate." Last year the Texas comptroller's office sent Amazon a demand for $269 million in uncollected sales taxes, plus penalties and interest, from 2005 through 2009. The state contends that Amazon.com is responsible for the sales tax it has not collected on online sales made in Texas. The state is seeking money from Amazon because its distribution center in Irving. Under a 1992 U.S. Supreme Court decision, that physical presence means Amazon potentially could be required to collect sales tax on transactions in Texas, according to legal experts. Amazon, which reported $34 billion in sales last year, has also been the target of numerous lawsuits filed by other states seeking sales taxes on online purchases. Amazon officials have not commented publicly on the tax bill from Texas, but the Seattle-based company said in a securities filing last year that it intended to fight the demand. Amazon filed a lawsuit against the state last month, demanding that it produce the audit that it used to arrive at the $269 million figure. In his e-mail to staffers, Clark said Amazon also is scrapping plans "to build additional facilities and expand in Texas, bringing more than 1,000 new jobs and tens of millions of investment dollars to the state." Comptroller Susan Combs has estimated that the state loses $600 million a year from untaxed online sales. The comptroller's office said last year that it has sent demands for payment to other online retailers similar to what it sent Amazon. ACLU, Amazon face North Carolina tax collectors in Seattle court Flashback October 13, 2010: ACLU, Amazon face North Carolina tax collectors in Seattle court North Carolina tax collectors say they want Amazon.com to turn over the names and addresses of customers in their state and a description of all purchases so they can get the sales-tax money they're owed. But the American Civil Liberties Union argues that if Amazon is forced to comply with North Carolina's data demands, Internet users would start to think twice about buying controversial books, music and movies, violating their constitutional rights to free speech. Amazon, which is being audited in North Carolina, says it has provided massive amounts of data about sales to state residents since 2003, including the city, county and ZIP code to which an item was shipped, the product code and total transaction price, but it did not turn over names and addresses. Amazon says disclosure of such data would have a chilling effect on people's willingness to buy books, music and other "expressive works" that might reveal an intimate fact about them. The ACLU agrees, saying the seven Amazon customers it represents include an elected official in Asheville, N.C., who is an atheist. "The intervenors have bought books about divorce, atheism, personality disorders, cancer and numerous politically charged issues," said ACLU lawyer Aden Fine. "It's no surprise the intervenors want to keep that information private and free from government scrutiny." North Carolina is one of several financially strapped states that have made more of an effort to collect sales tax from online purchases in the past two years. While the recession has hit many stores hard, Internet-only retailers continue to grow as shoppers become more comfortable buying online. North Carolina argues that because many online shoppers never pay sales tax, Amazon enjoys an unfair advantage over bricks-and-mortar stores. (North Carolina merchants collect state and local sales tax of 7.75 percent in most counties.) Under a 1992 U.S. Supreme Court ruling, North Carolina cannot force Amazon to collect its sales tax if it doesn't have a physical presence in the state. Amazon has no offices or warehouses in North Carolina, so state lawmakers last year decided the company's relationships with local marketing affiliates amounted to a physical presence. Amazon responded by severing ties with its North Carolina affiliates, a move it also made in Rhode Island and Colorado. A few days after Amazon filed its lawsuit, North Carolina offered a deal to Internet retailers, saying it would give them until the end of August to sign an agreement to begin collecting sales tax on products sold to state residents. In return, the state would not come after them for years of back taxes, penalties or interest, and it would not demand data about customers who bought from them. Of about 450 e-commerce companies that received the offer, 24 entered into an agreement with North Carolina, said revenue-department spokeswoman Beth Stevenson. The state estimates it will lose $162 million in uncollected sales tax from online purchases this year. Meanwhile, U.S. Rep. Bill Delahunt, a Democrat from Massachusetts, has introduced federal legislation that would allow states to require online retailers to collect sales tax regardless of whether they have a local presence. North Carolina Drops Lawsuit Against Amazon Flash Forward February 12, 2011: North Carolina Drops Lawsuit Against Amazon You probably are aware that online vendors – such as Amazon – do not charge sales tax to customers outside their home state. You also know that this has created much the controversy with the states, ever eager to tax to anything that moves within their borders. To be fair, if a person went a sticks-and-bricks store to purchase an item, the transaction would be sales taxable. It is the intermediation of the internet that presents the problem. And it is a problem. For example, I recently purchased an item from Britain. Would it be reasonable for that vendor to charge me Kentucky sales tax, as I live in Kentucky and the transaction would otherwise go untaxed? NC went after Amazon, requesting records of Amazon's transactions with North Carolina residents. Think about this for a moment. The state is forcing a company to release its records about you. You are not involved in the litigation; heck, you are not even aware of the litigation. The privacy concern here is staggering. The American Civil Liberties Union joined in a lawsuit against NC, and very recently NC settled the case. The state agreed to pay almost $100,000 in legal fees and ceased its action, but it reserved the right to go against Amazon and/or its customers in the future. North Carolina had previously gone after Amazon for sales tax on the argument of economic nexus. This means that a company has "nexus" with a state if it derives a financial benefit from commercial transactions within that state. This is an interesting argument, in that a variation of that argument would subject me to New Zealand taxes for ordering the Lord of the Rings video trilogy. In Amazon's case, NC argued that the economic nexus was provided by the affiliates, which are blogs or other online sites that provide links to products and/or offer coupons. I listen to online radio, for example. If a particular song captures my ear, I can click on the site, find out the artist and likely have a link to purchase the artist's CD. That is an example of an affiliate. North Carolina continued to chase Amazon for taxes before those affiliate ties were severed, resulting in the settlement mentioned above. Do you see any winner in this story? The Court Ruling Please consider the Amazon, North Carolina, ACLU Privacy Lawsuit Settlement U.S. District Judge Marsha Pechman ruled last October that the North Carolina Department of Revenue had overstepped its boundaries with its request for personal information, and noted that there is "no legitimate need" for them to have such information. "The fear of government tracking and censoring one's reading, listening and viewing choices chills the exercise of First Amendment rights," said Pechman. According to Rudinger, Amazon was not part of the settlement, and it was unclear whether Amazon's lawsuit regarding the state's audit was pending on appeal. In addition to Amazon, the North Carolina Department of Revenue is also facing lawsuits from many online travel companies such as Travelocity.com, Travelscape, Hotels.com, Trip Network Inc. and Orbitz due to the state and counties' tendencies to "arbitrarily change the contracts" they have with hotels in North Carolina. Texas Tries a Different Tact Unlike North Carolina, instead of requesting information from Amazon, Texas Sends Amazon a $269 Million Sales Tax Bill As states grapple with increasingly squeezed budgets, one simmering battle -- trying to collect sales taxes from retailing behemoth Amazon has heated up considerably over the past year. The jury's still out on how much money states like Rhode Island and North Carolina (which is thick in litigation with Amazon over this very issue) will get from online sales-tax initiatives. But Texas has issued its own bill to Amazon -- to the tune of $269 million. Not Really Doing Business in Texas? The issue of uncollected sales tax runs deeper in Texas because Amazon maintains a distribution center in Irving (close to Dallas-Forth Worth International Airport), which it opened in 2006. Two years later, the Texas comptroller's office launched an investigation into Amazon's bifurcated status. The company defended its lack of sales tax collection by saying Amazon doesn't actually own the distribution center. It's owned by a subsidiary, Amazon.com KYDC LLC, which is technically based in Kentucky. Assigning the distribution center to a different holding company, by Amazon's logic, means it doesn't have nexus there -- and that's why it feels it's off the hook. Of course, Texas disagrees, having estimated it loses $600 million a year from untaxed online sales. With a bill sent to Amazon, that opens the door to long-expected litigation between the two parties as well as to the possibility that other states will jump on the collection bandwagon. It may also hamper the retailer's plans to open several more distribution centers around the country because the prospect of sales tax collection may prove too much -- and too costly -- of a headache. Amazon Threatens to Leave 10,000 California Affiliates Inquiring minds are investigating a March 2, 2011 post on Bloomberg: Amazon.com Threatens to Cut Ties With California Affiliates Over Tax Issue Amazon.com Inc. (AMZN), the world's largest online retailer, has threatened to sever ties with more than 10,000 affiliates in California amid a dispute with the state over proposed taxation of Internet purchases. Four state proposals aimed at forcing Seattle-based Amazon to collect taxes from residents may be unconstitutional and lead to job losses, Paul Misener, Amazon's vice president for global public policy, wrote in a letter to the California Board of Equalization. Amazon's affiliates put ads for the retailer on their websites and then get compensation when shoppers click through and buy items. Californians could still shop at Amazon.com, though state businesses would miss out on the ad sales, potentially hurting tax revenue, the company said in the letter. When other legislatures passed similar provisions, Amazon terminated its affiliate relationships and then collected no sales tax for those states, according to the letter. Amazon and California tussled over the tax issue in 2009, when the state considered a similar measure. Governor Arnold Schwarzenegger vetoed the bill after Amazon said it would terminate the affiliate relationships, according to the letter. That same year, Amazon cut ties with affiliates in Rhode Island, North Carolina and Hawaii over tax disputes. I am an Amazon affiliate in Illinois. I make 30 cents or something when someone buys a book on my recommended reading list. It does not cost anyone a penny. Indeed, if someone would rather that 30 cents go to Amazon instead of me all they have to do is remove the tag "mishsglobalec" from the link. Note that 30 cents is a made-up number because it varies by price and I do not even know the percent. My recent statement shows a total of $246.62. I wonder how many books that is. Will getting rid of 10,000 Amazon affiliates in California accomplish anything? If so what, and in what timeframe? Consider my blog for example. Will I change my recommended reading list or stop pointing to Amazon? The answer is no. Amazon provides a good service and fast execution in my opinion. I am not using Amazon for the money. Others may be, but how much would it matter? It will be interesting to see how this plays out. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

Roubini-Founded Consulting Firm Sees $100 Billion in Muni Defaults, Says Current Assumptions "Pollyannaish"; FDIC "Shock Testing" Includes Munis Posted: 02 Mar 2011 11:07 AM PST A consulting firm founded by economist Nouriel Roubini said there could be close to $100 billion of municipal-bond defaults over the next five years as state and local government-debt problems damp the U.S. economic recovery. That figure would by most estimates represent a significant increase over defaults in recent history, but it doesn't appear to be as dire as a prediction last year by analyst Meredith Whitney. The report, by David Nowakowski and Prajakta Bhide at Roubini Global Economics and released to clients Monday, says state and local debt problems aren't "systemic" in nature, nor will they "infect the financial system." The authors of the report declined to comment. Most of the defaults will occur among special government projects and revenue-generating entities that aren't considered viable, it says. "Defaults will continue to be isolated events." The Roubini report says that relying on the history of low default rates in the municipal debt market is "Pollyannaish." "Avoiding a crisis will involve real austerity that has only partially been implemented thus far," the report states. Pollyannaish but not Systemic? I do think there is a systemic concern in regards to pension funding. State public pension funds are $3 trillion in the hole and that is a systemic concern in and of itself. I do not have an estimate for city and county public pension plans but that could easily be another $3 trillion in underfunding. Cities and states are without a doubt insolvent as I type. Oakland, Detroit, Miami, San Francisco, Los Angeles, Houston, Cincinnati, Newark, and countless other cities big and small are insolvent. It is unclear if Roubini Global Economics considers those pension problems as a separate issue. I will see if I can get an answer. Otherwise, my assessment is similar, at least for now. I do not think we see a massive wave of defaults on bondholders. The biggest defaults will affect pension plans (assuming nothing is done), not bondholders in general. Promises that cannot be met won't, and public pension plans are near the top of the list. Nonetheless, the defaults that do occur will rattle the municipal bond market and deservedly so. Bank Borrow-Short Lend-Long Schemes I do have another systemic issue in mind. I discussed it in The Next Borrow-Short Lend-Long Guaranteed to Blow Up Bank Lending Scheme; Citigroup, Chase, Bank of America CD Ripoff The issue is banks have gone straight to direct issuance of loans to municipalities, bypassing the bond market. Banks are lending straight to municipalities at rates as low as 3.85% for 21 years. Those terms are begging for trouble. Here is my comment from the above link. Fed or FDIC Should Stop this Fraudulent Scheme Now The Fed or FDIC should step in right now. There is no way banks can secure cost of funds for 21 years for 3.85%. Moreover, the risk of default is hardly zero, and banks will not be first in line should default happen. I think borrowing-short and lending-long is fraudulent. How can you lend something for 21 years when you only have the right to use it for 3, 5, or 7? Please see my discussion for more details. FDIC Shock Testing In response to that post, I received an interesting Email from "ABO" a Bank Owner and CEO regarding new FDIC shock testing exams. ABO writes ... Hello Mish You nailed it on the CDs. I just got done with an FDIC exam and they requested shock testing 400 basis points up and nothing down. Hard to go below zero. In terms of 5 to 7 year CDs a 15 year GNMA is probably a better way to go. Don't buy them at a premium and look at average life of 4 to 5 years. They are zero risk based as well. Anyway nice job I could not agree with you more. Last week a Bloomberg columnist asked for details regarding that stress test. Unfortunately, not only are the findings confidential, but so are the questions. However, I do have a bit more to add from a second email exchange with ABO. Shock Testing Now Includes Munis for First Time ABO Writes ... The reports and content are confidential, otherwise I would be happy to help you. They also asked us to audit the Municipal bond portfolio for quality as well. That was also a first. What I told you is 100% accurate. Previously we used a model of 300 basis points up or down. That was the threshold of the shock test. The change certainly makes sense in that not much chance of rates going down by 300 basis points. I would like to see the US Treasury shock testing for 400 basis points! By the way we are a very high quality bank with no problems so the request was not about us. We sort of live in the good old days of banking with excess capital and a 50% loan to deposit ratio with no wholesale funding. I am a strong liquidity guy as well. I asked ABO for a contact at the FDIC so I can raise my concerns directly. I do not have a response on that yet. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

USA Incorporated - a Look at the Grim Financial Situation of the USA Posted: 02 Mar 2011 01:56 AM PST Inquiring minds are digging deep into a 266 page PDF called USA Inc. a basic summary of America's financial statements. It is loaded with stunning graphs and charts on Social Security, Medicare, Medicaid, TARP Bailouts, Fannie Mae and Freddie Mac, military spending, tax revenues, and various projections. Here are a few images, but please give the document a closer look when you have a few moments. Click on any chart to see a sharper image. Cash Flow Expenses at a Glance Unfunded Liabilities Federal Spending as Percent of GDP Note this mess started with the creation of the Fed Growth in Entitlement Spending Take a step back, and imagine what the founding fathers would think if they saw how our country's finances have changed. From 1790 to 1930, government spending on average accounted for just 3% of American GDP. Today, government spending absorbs closer to 24% of GDP. Spending + Interest vs. Revenues By 2025, entitlements plus net interest payments will absorb all – yes, all – of USA Inc.'s revenue, per CBO. Less than 15 years from now, in other words, USA Inc. – based on current forecasts for revenue and expenses - would have nothing left over to spend on defense, education, infrastructure, and R&D, which today account for only 32% of USA Inc. spending, down from 69% forty years ago. This critical juncture is getting ever closer. Just ten years ago, the CBO thought federal revenue would support entitlement spending and interest payments until 2060 – 35 years beyond its current projection. To 25 Countries in Defense Spending Entitlement Spending by Household Medicaid Underfunding When Medicaid was created in 1965 to provide health insurance to low income Americans, 1 in 50 Americans received Medicaid, now 1 in 6 Americans receives Medicaid. Healthcare Spending Social Security Workers vs. Retirees Social Security Dependents GSE, Fannie Mae, Freddie Mac Expansion If that is not a shocking state of affairs, what is? There are lot more charts and graphs in the PDF. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

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