State Taxes and New Jersey

Back when Dan and I were invited over to Chicago Boyz they mentioned my posts on taxation and the energy industry as particularly interesting. Over the last few years I have not written that much on tax policy, because the news has been so uniformly bad that it is quite depressing to contemplate.

This article from the Wall Street Journal is titled “Escape from Taxation” and reviews the negative impact on the state of New Jersey caused by ever-increasing state income tax rates. As you can see in the table, the highest marginal tax rate on income in New Jersey has increased from 2.5% in 1976 to 10.75% in 2009. New Jersey’s growth used to be in part attributed to its lower tax burden when compared to New York state; today that gap has been (mostly) erased and with it has gone inbound migration of wealthy individuals and corresponding growth.

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Natural Gas – We Got it Half Right

Our energy situation broadly cleaves into two main functions – natural gas, and electricity. Natural gas is used for industry, heating homes and powering stoves, and is taking a greater portion of the electrical generation load. Electricity also overlaps with gas when it comes to home heating and cooling, and is obviously a large component for industrial uses. However, the natural gas and electricity energy industries in the United States have moved in profoundly different directions over the last few decades. The purpose of this post is to describe where we are, as a country, with regards to natural gas. In short – we got it half right.

Natural gas has three main components, broadly speaking – 1) exploration / extraction 2) transportation 3) distribution. In general, natural gas is lightly regulated for exploration / extraction, has general principles for transportation (open access) and is pretty heavily regulated for distribution (local monopolies).

One critical difference between electricity and natural gas is that natural gas can be stored while electricity must be available at the specific time it is needed. Thus users and utilities can store natural gas and have it available for peak times, while the only way to meet peak load demand for electric utilities is to have units on line generating electricity during the hottest parts of the day or to “shed load” by pushing customers off-line to reduce demand.

Both electricity and natural gas are mostly consumed using North American (including Canadian) resources. While OPEC maintains an oil cartel, the fuel used to generate electricity (coal, nuclear fuel, gas) mostly comes from North America. While these resources can be transported across the ocean (for instance Japan imports virtually all of what it needs to fuel electricity) in the USA (and Canada) we have most of what we need for these industries. Until recently there wasn’t a practical way to bring in natural gas from regions that weren’t connected by pipeline, so we were bound to use North American resources.

Exploration & Extraction

The exploration and extraction of natural gas is a mostly unregulated industry (compared to electrical utilities, at least). The biggest constraint was that vast swathes of the US were placed off-limits for natural gas drilling due to environmental concerns. In the 1970’s, a moratorium was placed on new natural gas connections because it appeared that the US would run out of natural gas. However, improvements in extraction capabilities resolved that situation and wildcatters responded to higher prices by finding additional supplies.

Recently it looked as if we were going to run out of natural gas again. Futures prices on natural gas, which were around $2 / unit in the 1990’s, spiked to as high as $14 / unit in the winters of 2006-8 (prices are seasonal and typically move with the weather) but now are below $4 / unit due to the fact that massive supplies of natural gas have been located in shale formations as drillers redoubled their efforts in light of these high prices.

The natural gas industry, as we can see above, is able to use market forces to respond to price signals. Drillers used innovation and new technology to find new supplies which in turn brought down the high prices. If the extraction / exploration industries were heavily regulated and monopolized (like power generation), it is likely that they would just have utilized the high prices as an opportunity to reap large profits rather than to expand supply.

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Leverage, dividends and our insanely low interest rates


Like the famous Seinfeld episode where Kramer struggles to figure out how to profit from the fact that Michigan offers a 10 cent return on recycled bottles, I have been starting at this ad from Interactive Brokers for some time now. This had has been run in myriad financial papers and I have seen it all over the place. It is notable for the fact that it looks like it was drawn “on the back of a napkin” like the fabled dot-com business plans.

The specific elements of the investing plan are as follows:
– Interactive brokers can make margin loans at 1.25% annual interest. This LOW rate of interest is made possible by the country’s current super-low rate policy
– Some stocks are offering dividends as high as 5%. In the current low interest rate environment (you are likely to get 2% on CD’s & government paper, and almost nothing on your money market and bank deposits), that 5% rate seems very enticing, especially since dividends are taxed more favorably on individuals than interest income (dividends are as low as a 15% rate, while interest income is as high as 35%+)
– Interactive brokers will offer you LEVERAGE. By leverage, this means that they will LOAN you more money than you have in your brokerage account so that you can invest and magnify your returns, either UP or DOWN

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