Part 6

Yet, I feel certain that in the end just recognition of their motives will not be withheld from those who, in defiance of the fleeting popularity of the plausible, venture to point out the dangers of impetuous action, however well intentioned, in the present emergency, and to urge that moderation and that regard for the lessons of history and of economics which can be left aside only at the peril of the general welfare.

Very faithfully yours,

(Signed) OTTO H. KAHN

P.S.--That you or any one else should even for a moment attach credence to the monstrous suggestion that capitalists fomented America's entrance into the war because they feared that otherwise the amounts loaned by them to the Allies might be jeopardized or lost, is a truly distressing manifestation of the willingness of some of our people--I trust not many--to believe evil of men simply because they have been materially successful.

Leaving aside the cruel injustice of such an imputation, it attributes to moneyed men a degree of stupidity and of ignorance as to their own interests, of which they are not usually held guilty.

America loaned to the Allied nations, prior to our entrance into the war, roughly speaking, $2,000,000,000, of which sum all but a small fraction was loaned to England and France.

These loans were made almost entirely in the shape of bond issues which were widely distributed amongst individuals and institutions throughout this country. Therefore, no very large portion of the aggregate is in the hands of any one person or institution.

To any one acquainted with financial affairs it is absolutely inconceivable that England or France would have defaulted on the relatively moderate amount of their foreign debt, whatever might have been the outcome of the war, if America had not joined.

Let us grant, for argument's sake, the wildly far-fetched supposition that in one way or another their internal debt might have become affected; it would still be utterly inconceivable that they would have permitted a default in their foreign debt, because it is, of course, suicidal for any nation to jeopardize its world credit.

But let us go still a step further and assume, in defiance of all reason, that even this totally inconceivable thing were to have happened. It would have meant, of course, not a total and irrecoverable loss to the holders of obligations of the Allied countries, but merely a more or less temporary shrinkage of the value of such holdings.

A single year's war taxation will take out of the pockets of capitalists a great deal more than they could possibly have lost through depreciation in value of such amount of Allied bonds or loans as they may hold.

If you add to these considerations the circumstance that, owing to the intervention of our Government in financing and otherwise providing for the Allies, the commissions and profits of those who have heretofore dealt with the Allies will be largely cut off; that business will, quite rightly, be subjected to a large excess profits tax; that capital for years to come will have to pay increased taxes to provide for the debt incurred through the war, for pensions, etc.; if you will reflect on these and various other patent considerations, you will realize that any rich man, fomenting for selfish reasons our entrance into the war, would be a fit subject for the immediate appointment of a guardian to take care of him and of his affairs.

The Actual Return Upon Taxable and Tax-Exempt Securities

Dear Sir:

Your letter indicates that you do not sufficiently realize the enormous advantage in interest yield which under the income tax schedule as fixed in the House Bill is possessed by tax-exempt securities as compared to taxable securities, especially, of course, in respect of large incomes.

Permit me to call your attention to the following eloquent facts:

The yield of tax-exempt securities at prevailing prices ranges from 3-1/2% to nearly 4-1/2%. Under the rates fixed in the War Revenue Bill as it passed the House of Representatives, a taxable 6% investment would yield:

PER ANNUM 2.28% on incomes over $2,000,000 2.34% " " " 1,500,000 2.40% " " " 1,000,000 2.69% " " " 500,000 2.97% " " " 300,000 3.26% " " " 250,000 3.54% " " " 200,000 3.90% " " " 150,000 4.20% " " " 100,000

Or, to put it in another way, the investment in 3-1/2% "Liberty Bonds" is thus equivalent to investing in a taxable security yielding:

PER ANNUM 9.21% in respect of incomes over $2,000,000 8.97% " " " " " 1,500,000 8.75% " " " " " 1,000,000 7.82% " " " " " 500,000 7.07% " " " " " 300,000 6.45% " " " " " 250,000 5.93% " " " " " 200,000 5.38% " " " " " 150,000 5.02% " " " " " 100,000

The investment in, say, New York City Bonds, being tax-exempt, at their present yield of 4.20%, would represent the following rates of income as compared to investments in taxable securities:

PER ANNUM 11.05% in respect of incomes over $2,000,000 10.76% " " " " " 1,500,000 10.50% " " " " " 1,000,000 9.38% " " " " " 500,000 8.48% " " " " " 300,000 7.74% " " " " " 250,000 7.12% " " " " " 200,000 6.46% " " " " " 150,000 6.02% " " " " " 100,000

Of course, all these figures hold good only for the period during which the proposed rates of income taxation would prevail. As the income tax rate decreases, the yield from tax-exempt securities diminishes proportionately.

The volume of tax-exempt securities at present outstanding, including the new "Liberty Loan," is estimated at not less than $8,000,000,000.

The ability of corporations to find a ready market for their securities is a prerequisite for the continuance of business prosperity or, indeed, of adequate business activity. I need not elaborate the effect which the comparison of the income yield from tax-exempt securities as against taxable securities under an excessively high income tax schedule--even if confined to larger incomes--must necessarily have upon the eligibility of corporate securities for investment purposes. The conclusion seems unescapable that the resulting degree of disinclination to invest in such securities coupled with the impulse to dispose of existing holdings would bring about liquidation, severe shrinkage of values and more or less pronounced demoralization in the investment market--a condition of things which could not fail in a measure to affect adversely the country's business in general, and which could only partially be counteracted by Government expenditures, however large.

As to your observations concerning the principle of tax-exempt issues, I believe the Government acted wisely, considering all the elements of the situation, in making its first great war issue, the Liberty Loan, tax free. But in the face of the figures above quoted, the question naturally presents itself whether our traditional policy of making Government issues tax-exempt should not be discontinued, which, of course, would mean that a materially higher rate of interest than 3-1/2% would have to be paid for Government borrowing.

In theory, it seems to me, there can be little doubt that the balance of arguments is against the tax-exemption of Government loans. As an abstract proposition little can be said, I think, in favor of a policy the effect of which gives an advantage to the rich and well-to-do, militates against the widest possible distribution of Government issues amongst the people, tends to facilitate Governmental extravagance by concealing the true cost and establishes a fictitious basis of national credit.

Thus, for instance, on the $1,000,000,000, or thereabouts, which our Government has loaned to the Allies at 3-1/2% interest, it is losing money, because, whilst it nominally borrows this money through the Liberty Loan at 3-1/2%, the cost to it is actually considerably higher because it loses the revenue which would accrue to it from the income tax if the bonds were not tax-exempt.