Companies like J.G. Wentworth feast upon the financial anxiety/desperation of middle America, where most people can’t wait to collect the whole $100,000 they won in court after losing an eye at work, and will settle for $20,000 they can use to pay the rent (or, more often, the doctor or the pharmacist) this week. Money is so tight out there that people will take a bad deal, even a draconian deal, just to make it to next week, especially when the idea is getting rammed into their heads in high-production-value commercials during football games and American Idol broadcasts five hundred times a week.
Now one cannot (and should not) legislate against stupidity, and desperate people often will take desperate measures even if they could have much more cheaply converted some of the annuity to an upfront loan at a less-than-draconian implied interest rate. It seems that J.G. Wentworth has taken between 25 and 67 per cent of the annualised valued of the annuity.
To give an example. Assume a ten-year annuity of $1000 per month. The present value of that annuity with a 10% discount rate is $75671. At the minimum J.G. Wentworth rate it is $43957 and at a reported 67% it is $17884.
My principal concern with such arrangements is where (for example) a person receives a disability compensation as an annuity to cover their excess health and living costs for the remainder of their life. If the annuity is traded for a cash settlement, and that is exhausted/squandered, the taxpayer would then be exposed to the expense of looking after this person. So in the presence of strong social security benefits, there is a case for restricting the ability of persons to transform such annuities into lump sums.
However, Governments too have been selling off the silver (or annuities) at ridiculous discounts. Taibbi cites the example of Chicago selling off 75 years of its parking meter revenue to a consortium of investors, which Mayor Michael Bloomberg now proposes to do in New York City, putting up 90 000 parking meters for lease to get an estimated $11 billion upfront.
Selling off the rights to tax collection isn’t exactly novel; after all the Romans used to run auctions for the right to tax farm a province. This led to problems of some tax farmers going a little too keenly about their jobs – the Emperor Tiberius warned of the excesses of some tax farmers:
It is the duty of a good shepherd to shear his sheep, not to skin them.
Unfortunately many of these deals sell an asset to repair a deficit. The sale of an asset should be used to either purchase another asset or to retire a liability. But it should never be used as a short-term fix to address a revenue and expense mismatch or cash-flow problem.
As Taibbi writes
A New York parking meter deal like the Chicago deal would be a perfect example of the deeply cynical short-term thinking of many American politicians these days. These deals involve a sitting executive selling off a valuable piece of city property at a steep discount to private financial interests (often, to friends or campaign contributors) in order to solve a current cash flow problem that, surprise, surprise, will still be there the year after you finish spending the proceeds of your sale.
In Chicago’s case, Mayor Richard Daley sold 75 years of meter revenue – worth an estimated $5 billion – for $1.2 billion. So he gets 20 cents on the dollar for the city’s parking meters in 2008, and then in 2009 the city still has a budget problem that’s now worse, because there’s no parking meter revenue anymore, ever.
Ultimately, these infrastructure deals operate under the same basically predatory, let’s fuck-the-uninformed elderly business model that guides companies like J.G. Wentworth.
Sure it [selling off the parking meters] makes sense for [Mayor Michael] Bloomberg personally – he gets to govern for another year without having to make tough decisions on budget cuts and taxes – but for the city in the long run it’s a disaster. Criminal, even. This is like a man with a wife and dozen dependent children selling his family’s lottery winnings to J.G. Wentworth so he can go on a skiing vacation in Gstaad with his mistress before the divorce goes through.
It couldn’t happen in Australia, surely?
But what about many of the toll-road projects in Australia which have left the risk with the taxpayer and the upside with the financier/operator?
Take a look, for example, at at a report from the Treasury on infrastructure. According to the news coverage, it apparently states that greater use of tollways and user-pay charges is necessary to
unlock private finance for new projects
I think that tollways and user-pay charges have their place, and can be superior to funding entirely from tax revenue. But these type of projects structured in that way only make sense if there is appropriate risk transfer. As discussed in a Productivity Commission paper the form of financing should be subject to a cost-benefit analysis.
Moreover, if the government can borrow at (say) 3.5 per cent when an alternative private financier would lend to the government project at 7 per cent, why should the Government not consider issuing its own paper? Indeed consider two options:
- a tollway, operated and financed by the private sector with the residual risk borne by the Government; and
- a tollway, financed by Government debt, operated by the private sector with the residual risk borne by the Government.
In this case, the second option is most likely the best for the taxpayer and the national interest.
Just because a project is financed by government debt, doesn’t mean that the debt should not be repaid by user-charges and tolls. The key is an appropriate CBA taking account of who bears the risks.