But no one is going to want to pay more in taxes just because Warren Buffett says so. The important point he made is that he is in the business of making money, the business of investing — perhaps the best of the best at this — and he says, tax policy doesn’t affect the way he and most of his competitors pursue their craft.

He notes, “Back in the 1980s and 1990s, tax rates for the rich were far higher, and my percentage rate was in the middle of the pack. According to a theory I sometimes hear, I should have thrown a fit and refused to invest because of the elevated tax rates on capital gains and dividends. I didn’t refuse, nor did others.”

To add emphasis, he states, “I have worked with investors for 60 years and I have yet to see anyone — not even when capital gains rates were 39.9% in 1976-77 — shy away from a sensible investment because of the tax rate on the potential gain. People invest to make money, and potential taxes have never scared them off.”

Many people will dismiss Buffett because of politics or his age — in fact they already are — but this is not some liberal Hollywood star making this point, this is arguably the greatest capitalist of our time. And he is saying the tax rate does not dictate his investment plans, which is an argument made so often many presume it to be true.

He next attacked the job creation argument. How raising rates on the rich would stop job creation. “And to those who argue that higher rates hurt job creation, I would note that a net of nearly 40 million jobs were added between 1980 and 2000. You know what’s happened since then: lower tax rates and far lower job creation,” Buffett states.

A little over a year ago I attended a forum on the debt crisis at the University of Chicago sponsored by the MacArthur foundation entitled, “America’s Fiscal Futures: Making Difficult Choices.”

It was based on the report, “Choosing the Nation’s Fiscal Future,” which was produced by a committee put together by the MacArthur Foundation and chaired Dr. John Palmer and Rudolph Penner.

The point was to bring experts together to come up with a plan to cap the debt to GDP ratio to 60% by 2022, an area which was viewed as a danger level.

They developed a couple of models to do this but the conclusion by the chairs of the committee was simple, there was no way to do this simply by raising taxes or simply by cutting spending. Tax increases would be too high and budget cuts too deep. It had to be some combination of the two.

Since then a portion of the Republican party backed by Tea Party activists have managed to take one side of the equation completely off of the table despite their claim that their focus was on deficit reduction.

If this is indeed your top priority, then you really can’t start by taking potential solutions off of the table. That fails the smell test.

As we pointed out last December when a compromise was reached to extend the Bush tax cuts as well as unemployment benefits, neither side appeared to be serious about the deficit. Both sides compromised to keep what was important to them: for the GOP it was to retain the Bush tax cuts for people earning more than $250,000 (they threatened to not extend the cuts to all if the Democrats attempted to simply end them for the top earners) and for the President it was extending unemployment benefits out 99 weeks. What both sides were willing to give up was deficit reduction.

We all now know that those sorts of compromises are destructive to the long-term health of the United States.

Buffett’s piece reiterates that fact  noting the need to pare down “future promises,” but also notes that the dire consequences often attached to any sort of revenue increase simply are not true.

At a recent Republican debate, all of the GOP contenders for the 2012 nomination affirmed that they would not raise revenue (taxes) even if it was accompanied by budget cuts 10x the size of the revenue increase. Perhaps they should consult with America’s most successful investor.

Perhaps some analysts and pundits breathed a big sigh of relief when equities rebounded after a huger sell-off on Wednesday to close higher. No relief was in sight today as the Dow dropped more than 500 points and the S&P 500 dropped 55 pushing both indexes into the red for 2011. 

We see two possible explanations: fundamental and technical. First perhaps investors and the rest of the world where a bit shaken that a significant portion of our elected leaders would take us to the brink of default to prove a point. Basically that they would not be the first to blink.

 How much confidence can you have in an economy with such recklessness in high places going on? We pointed out last week that the debt ceiling debate was having real consequences. People and markets were working in a chance of a default — albeit a slight one — into their risk models. Margins rose and haircuts on Treasuries were increased. That meant funds had to be diverted from other things to cover that small downgrade in collateral.

That being said, the markets did seem a little toppy and last week’s sell-off pushed the indexes to some significant support levels that were taken out. So while you listen to blame get tossed around the next couple of days remember this move may be mostly technical.

More on this shortly.

Setting aside the fact that the deadline confirms Congress’ oblivion to the amount of work involved, our legislators delayed the necessary funding and, for distraction, ran a virtual shuttle service between the CFTC and various Hill hearing rooms to grill CFTC leaders relentlessly on why more was not being accomplished. Or why the CFTC was not heeding fully the wisdom of banks, hedge funds and swap users that saw Armageddon in each rule proposal.

When it became obvious many weeks ago that the July 16 drop-dead date was an impossibility, a one-line amendment to Dodd-Frank extending the deadline would have been a solution that any fifth-grade civics student might suggest. Instead, a crisis was manufactured that required the CFTC to use its own wits.

Which it has. In a twist of irony, the agency has concluded that the lack of rules means that key parts of the new law would be jibberish without, say, rules defining key terms. Why, we won’t know what a “swap” is until the CFTC finishes defining it. Implementing a registration regime for “swap dealers” without clarifying the first term, for instance, could subsume unintended targets – even the Congress itself (just let them try to deny that they swap and deal all the time!).

But muddle through we must, and will. It is a very steep climb, thanks to Congress. After all, the place is not called “the Hill” for nothing.

Yet there were others who saw the sharp rise in margin requirements by the CME Group as proof of a conspiracy. Margins did go up sharply but so had price and volatility making silver more risky and thus requiring more money to back positions.

I have recently spent  quite a bit of time going through comment letters to the Commodity Futures Trading Commission (CFTC) regarding it proposed position limits and many are from folks wanting stronger limits on silver because they feel the shiny metal is being manipulated. In a twist they think price is being held down.

That is in contrast to the conspiracy theorists—some in Congress—that believe speculators are pushing commodity prices higher. Certain Congressmen have suggested and even drafter legislation, that would direct exchanges to use margin not for the purpose of managing risk but to regulate price.

There seems to be a lack of understanding of what the purpose of futures margin or performance bonds is. Here is a good description by Howard Simons.

Everyone in Congress or who purports to give an opinion on margin requirements should look at this first.

Henry Jarecki, chairman of Gresham Investment Management, a long-time figure in both cash and futures metals markets and the subject of our May cover story gave a lecture in April at Georgetown University titled, “The Relationship Between Commodity Futures Trading and PhysicalCommodity Prices.” 

Jarecki has made his views known not only here but also testifying before the Commodity Futures Trading Commission (CFTC) on several occasions.

While Jarecki definitely has skin in the game — managing a long-only commodity strategy fund — he also has vast experience in both the physical and futures world and understands their dynamics better than most.

He points out that “the dollar values of the world’s physical commodity markets are, in every commodity, many times larger than the value of the associated open interest of futures markets (see table).

As one who has seen arguments on both sides and has observed some pretty specious arguments, I would urge those who truly want to understand the subject to read Jarecki’s piece.

The disconnect of those who would blame speculators, whether making an honest argument or simply reacting to populous demand, is in equating holding derivatives with actual physicals.

Jarecki writes, “one of the reasons it was so easy for the public to believe that commodity investors were responsible for increasing physical prices is that the argument relies on the public’s perception that in the physical world buying pressure inevitably causes price increases. To bolster this, the “impose limits and thus lower prices” forces utilized terminology that confused buying futures with buying physical commodities, and confused a demand for futures contracts with a demand for actual goods.”

 There has been a long debate on the subject of whether speculators, and more specifically long-only index funds,  are to blame for higher commodity prices. There has also been a lot of recommendations to address it but even those who support that argument would not argue that other factors play a definite role in price. Tangible real factors like a significantly weaker dollar, increased demand from emerging economies and a reliance on sources of energy from regions where ongoing suppply is at risk from war and civil unrest. As noted here before, why aren’t we seeing the same energy put forth to address these known factors.

While the Fed made sure the banks got theirs, there has been no sign of diligence from the Fed on the rest. Why didn’t  someone ask Ben specifically what have you done to “restore the flow of credit to American families and businesses” or more specifically, why didn’t you make the largesse you offered the banking sector conditioned on restoring that flow of credit.

 The troubled asset relief program (TARP) was passed to a great extent on Bernanke’s urging and one reason certain Congressman voted for it was to preserve home ownership. Neil M. Barofsky, special inspector general for TARP, noted in an op ed piece, “The legislation that created TARP, the Emergency Economic Stabilization Act, had far broader goals, including protecting home values and preserving homeownership. …Treasury promised that it would modify those mortgages to assist struggling homeowners. Indeed, the act expressly directs the department to do just that.”

Obviously this is an issue for Treasury but the Fed chief was paired at the hip with Treasury Secretary Hank Paulson in urging Congress to pass TARP and as mentioned above many in Congress voted for it based on a promise to modify mortgages. Remember the crisis in large part had to do with banks holding toxic assets of bundled below water loans. The banks got a do over but millions are still facing foreclosure based on unrealistic valuations that banks have already been compensated for. Now the banks are making record profits and foreclosures are still a drag on the economy. How could the two not have been tied together?

And any time Ben wants to talk about our “strong dollar policy” and how Fed policy has affected the dollar we will be willing to listen.

It is astonishing to us that the CFTC has promulgated whole forests of rules related to Dodd-Frank and yet has not defined the entities and products that come under those rules. Seems backwards as noted here recently by our contributor and former CFTC Chairman Philip McBride Johnson.

We are sympathetic with the volume of work the Commission has had to undertake and realize that the definition phase is particularly cumbersome as it must be undertaken in cooperation with multiple other regulators, but it still makes no sense to save the definitions for last.

People and organizations are commenting on these myriad of rules unsure what particular bucket they and the products they offer and are accessing fall into.

A clear set of definitions as a first step could have helped streamline the whole process.

Now there is the chance that rules may be rendered meaningless as there is a real threat that Dodd-Frank could be neutered through a lack of funding. This type of uncertainly is bad for the markets. As is the prospect of defunding the regulators. Markets need clear rules or standards and their enforcement should be even, not based on a resource allocation decision within an agency.

If there are parts of the law people don’t like, work to remove them but don’t turn compliance into a voluntary exercise based on a cost benefit analysis estimating the regulators ability to monitor your activity.

“The greatest tragedy would be to accept the refrain that no one could have seen this coming and thus nothing could have been done. If we accept this notion, it will happen again…. It falls to us to make different choices if we want different results.”

These are the words of the task force that wrote the Financial Crisis Inquiry Report released in January. These 10 commissioners were tasked by Congress to determine what caused the 2008 financial meltdown. After hearing about possible exemptions of certain firms from the Dodd-Frank Act by those in Congress, I read this report. It irks me that some of those responsible are the loudest naysayers of reform. Even the task force notes: “Some on Wall Street and in Washington with a stake in the status quo may be tempted to wipe from memory the events of this crisis….” So let’s have at it…what were the group’s main conclusions?

1) The financial crisis was avoidable. “The crisis was the result of human action and inaction, not of Mother Nature or computer models gone haywire. The captains of finance and the public stewards of our financial system ignored warnings and failed to question, understand, and manage evolving risks within a system essential to the well-being of the American public.” The main instigator? The Federal Reserve Bank and “its pivotal failure to stem the flow of toxic mortgages, which it could have done by setting prudent mortgage-lending standards.”

2) Widespread failure in financial regulation and supervision. “The sentries were not at their posts…more than 30 years of deregulation and reliance on self-regulation by financial institutions, championed by former Federal Reserve Chairman Alan Greenspan and others, supported by successive administrations and Congresses, and actively pushed by the financial industry at every turn, had stripped away key safeguards, which could have helped avoid the catastrophe.” Regulators highlighted for sleeping on the job: Securities and Exchange Commission, Federal Reserve Bank of New York and those keeping an eye on the mortgage industry. One suggestion on how it was weakened: The financial industry spent about $4 billion in lobbying and campaign contributions from 1999 to 2008.

3) Failure of corporate governance and risk management at key financial institutions. “Too many of these institutions acted recklessly, taking on too much risk, with too little capital, and with too much dependence on short-term funding.” Further, compensation focusing on short-term gain added to the long-term problems.

4) A combination of excessive borrowing, risky investments and lack of transparency led to the crisis. Everyone was overleveraged, especially Fannie Mae and Freddie Mac. Both Wall Street and Main Street incurred debt levels unseen before.

5) The government was ill-prepared and its inconsistent response added to the uncertainty and panic. They rescued Bear Stearns, then put Fannie and Freddie into conservatorship, then let Lehman fail and then bailed out AIG.

6) There was a systematic breakdown in accountability and ethics. You think?

7) Contributing to the meltdown was a collapse of mortgage-lending standards, unchecked OTC derivatives and credit rating agencies that didn’t do their jobs.

My synopsis just skims the report; this group dug in and even got philosophical. “These conclusions must be viewed in the context of human nature and individual and societal responsibility…. It was a failure to account for human weakness that is relevant to this crisis.” It does hold accountable public officials, specifically in the Clinton and W. Bush administrations, and sort of blames us for allowing these officials to do what they did to the system. So what’s the takeaway? Learn from the past, heal thyself, and blame Alan Greenspan.