Maybe Buffett is just so rich he never says “meh”
November 27, 2012, 4:39 pm
Filed under: Uncategorized

In this Warren Buffett piece I’m seeing linked approvingly, we once again find our brave hero Warren Buffett making the courageous and selfless argument that millions of nouveau-riche folks who aren’t nearly as wealthy as him – yes, yes, him too, but mostly the nouveau-riche folks beneath him – all need to be taxed more. (To understand the straightforward mathematics that are likely to be motivating this viewpoint, see this post of mine.)

Luckily – because I am too lazy to read it all – the key passage comes at the very beginning:

SUPPOSE that an investor you admire and trust comes to you with an investment idea. “This is a good one,” he says enthusiastically. “I’m in it, and I think you should be, too.”

Would your reply possibly be this? “Well, it all depends on what my tax rate will be on the gain you’re saying we’re going to make. If the taxes are too high, I would rather leave the money in my savings account, earning a quarter of 1 percent.” Only in Grover Norquist’s imagination does such a response exist.

Everyone on the Internet, especially those who have nothing whatsoever to do with finance or investing but like to read and write about rich people and money a lot (such as Slate’s business and economics correspondent Matthew Yglesias) just nodded their heads in agreement. Because Buffett is obviously correct. Investors will behave the same regardless of the capital-gains tax rate.


I’ll just note that Actually, No It’s Not True, at least according to standard correspondence-school/pop-finance theory 101. Has everyone just forgotten? After all:

An investment has a risk. For taking risk, you’re supposed to get a return. The bigger the risk, the bigger the return. And so, whether you decide to invest, depends on whether you think its return outweighs its risk.

So say your friend comes to you with that investment, and after intense study you decide it’s worth the risk – just barely – if the after-tax return is X% or more. Then your friend informs you the after-tax return is indeed exactly X%. Will you buy it? Yes, you will: it meets your bogey. But if taxes are raised, that X% return goes down – and now you won’t buy it, because the risk is the same, but the reward is not, so it’s no longer worth it. So contra Buffett, you will too just leave your cash in your savings account (or seek a different investment anyway, e.g. tax-free munis, if nothing else…), at the relevant margin.

Of course, I’m not saying I buy into this textbook pop-finance 101 risk-reward theory of investing lock stock & barrel. And from his piece, clearly Buffett doesn’t either. But it would be interesting to learn just which part of the above limited application of it he thinks is untrue. Perhaps he thinks people only care about returns in a relative way, i.e. vs other investments, so, as long as the friend’s investment gets the same return as stuff with Similar Risk, it’s all cool. Or perhaps, similarly, he thinks everyone conveniently mentally calculates all their risk-return curves in pretax dollars.

These do salvage Buffett’s assertion (sort of; there is still the issue of munis). But these would be weird, idealized, oversimplified things to think – every bit as much as the ‘risk-return’ theory itself. After all, in the real-world there are fixed costs, frictions, stickiness, and relationships involved with all these decisions. Somewhere, for everyone, there is what I think of as a “Meh” barrier: Would you make a 30-minute phone call to increase your portfolio’s return by 10%? OF COURSE! Would you make that same phone call to increase it by 0.00001%?


Somewhere in between those two investments is a “Meh” barrier, a not-worth-the-brain-damage threshold.

So there is a pretty intuitive and straightforward story one could tell which goes like: As taxes (or for that matter, any other frictions or regulations or paperwork or costs or other barriers) increase, more and more investment options/changes will tend to hit peoples’ “Meh” barriers. And in aggregate that will tend to curb capital investment.

Now, if Buffett doesn’t agree with that – and from the piece one would think that he doesn’t – it would be interesting to learn why. It might in fact be because, as such a large money manager, for all intents he never actually hits those barriers, and indeed he would make a phone call (or rather, press a button) for that extra 0.00001%, because – for him – maybe that’s a lotta money.

But for regular investors? Mostly, it’s not. Ironically, this would mean that all the people pointing at Buffett and saying ‘He’s such a large investor so he knows what he’s talking about’ have it exactly backwards. Maybe he’s such a large investor that he’s simply out of touch with the constraints and frictions that affect most people.

16 Comments so far
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Buffet’s not a finance guy, he’s an investor. His investment strategy is pretty straight-forward. He’s been pitching it in public for years.

a) Find a really good deal, the kind that’s a no-brainer.
b) Put your money there.

There’s not a lot of no-brainers. Buffet hasn’t made a lot of investments. His Meh barrier is really high. A deal for him is either worth doing at pretty much any price (but be sure to get a good one!) or it’s not worth bothering to take a call over. That’s the kind of investment attitude that his article displays, and sure enough it’s not particularly sensitive to small changes in marginal returns.

I bet marginal post-tax returns have a much bigger effect on small businesses, small investors, entrepreneurs, and loan underwriters than they do on billionaires and celebrities. And those “little people” in turn have a much bigger effect on the economy.

Comment by eddie

Yes, your explanation makes more sense.

Comment by Sonic Charmer

So how does all this hypothetical taxing or non-taxing of investment capital play out with mutual fund managers who simply pass through to holders a fund’s capital gains/losses, or with the deferred-tax retirement account crowd, neither of whom, I suspect, will be bothered (influenced?) by whatever might be the result of all this hoo-hah.

Also, I’m fascinated by your use of initial capital letters. Do you have a system or a rule?

Comment by colocomment

I’m not sure mutual funds or IRAs are the sorts of things covered by Buffett’s “suppose an investor you trust comes to you with an investment idea” story in the first place.

What ‘use of initial capital letters’?

Comment by Sonic Charmer

Re: the “a trusted investor comes up to you” scenario:

unless the investor is from a foreign country, we can pretty well assume based on context that when he says “this is a good one”, he means “this is a good one *even after* taxes are factored in”. If the deal were so borderline that its “goodness” depended on whether or not you factored in taxes, it’d be pretty retarded to call it “a good one” (unless of course he’s trying to rip you off).

Way I see it, if taxes make people think more about investments, that’s great. Right now investments are viewed pretty much like slot machines by a lot of people. There’s a total disconnected between “put money in, get money out” and the actual products/services their investment is actually buying. (There was an Onion article to this effect long ago. Cisco stocks plummet; investors become outraged upon learning that Cisco is an actual company making actual products and not just a stock traded for its own sake. Something like that.)

Comment by anon

*He* might think it’s a good one after taxes, but that doesn’t mean *you* have to. (Or is Buffett pitching a vision of the world in which all important investment decisions are made solely on the say-so of Sage Advice From A Trusted Guy….like Buffett?) We all think differently about investments and everything else. That’s why things are traded, i.e. sold by one person yet bought by another. Otherwise why would anyone ever sell anything? It’s ‘good’!

Obviously if something is a no-brainer it’s a no-brainer. Like Eddie said, there aren’t too many of those, especially not that are available to sub-Buffett investors. The question is what happens in a marginal case. After-tax returns are what affect the bottom line and so it doesn’t seem crazy to me to think they might actually affect some marginal cases, Again: if nothing else, imagine an investment that looks just *slightly* better than munis under tax #1, then ask what happens if taxes are raised. You switch to the munis right? So that alone is an effect.

You think it would be ‘great’ if people were more deliberate about investing, and maybe you’re right. I assume ‘Keynesians’ would disagree with you because they love indiscriminate spending on whatever. Either way, notice being more deliberate about investing is more or less the same thing as deciding “meh, I’ll just keep my money in a savings account” when the marginally-‘good’ (but not slam-dunk) investment opportunity comes along. I.e. it’s the thing Buffett is implying won’t happen upon raising taxes.

Mind you, I don’t want to imply that all this is the reason I oppose raising taxes. I oppose raising taxes because there’s no good reason to (seriously, why is this even on the table? Has someone made a rational argument for raising taxes and I missed it? Who? Where?). Again what I’m interested re: Buffett’s piece is where exactly he thinks the marginal analysis breaks down.

Comment by Sonic Charmer

In a perfect world, money should be a side issue when making investments. If your rich uncle comes and tells you about a great new industry you can get in on the ground floor, you should be asking things like “how will this new product change the world”, not “how much will the capital gains be taxed”.

The reason to raise taxes is to repair the broken money system. The point of money is to help identify who is owed favors. A lot easier to use money than to keep an extensive list, “this guy gave me groceries, this guy drove the groceries’ to that guy’s store, this guy pumped the gas for that guy, (insert 500 more lines), and that’s why I’m giving this guy my couch”.

The problem is that money in this sense has been broken. The average millionaire hasn’t done nearly enough good for the world to deserve the amount of “favors” which his bank account suggests we owe him. Hell, a lot of them have actively made the world worse (patent trolls, frivolous lawsuit plaintives rentseekers of all form), and if money were working correctly they’d be bankrupt!

Comment by anon

Dunno how to react to your ‘in a perfect world’ claims. Next shall we count angels on the head of a pin?

Anyway, so your argument for raising taxes is, We Need To Take Money Away From Rich People.

Has nothing to do with any budgetary concerns. Has nothing, even, to do with the ‘fairness’ of how taxation is distributed as such.

You just think there are people out there with Too Much Money and so you think the government should Take A Lot Of It Away.

That’s your argument.

Right? Or did I mischaracterize your claim? I don’t want to be accused of that so I want to be sure.

Comment by Sonic Charmer

“Next shall we count angels on the head of a pin?”

No, but we should always have goals and try to move toward them, rather than just “preserve status quo at all costs”.

>Anyway, so your argument for raising taxes is, We Need To Take Money Away From Rich People.

Yes, gradually. Not all at once. If I build a car for you, you owe me a lot. But over time, if I don’t cash in on that debt, gradually you ought to owe me less. If I come around 70 years later, all, “Yo Rhymes, I built a car for you way back when, now you build one for me”, you should rightly have to option to tell me to stuff it.

It’s about getting rid of entitlements. No-one is entitled to be wealthy. If they (or their father or grandfather…) did something really good for the world, that shouldn’t entitle them to private jets forever.

We’ll know we’ve taxed the rich enough when, for every uber-rich person in the world, you can clearly point out: Oh, that guy gets a private jet because he [fill in the blank] (cured cancer), (solved big physics problem), (automated entire industry), (has a blog with 10 million readers), …

Comment by anon

You mean, you give a car to me now, and let me pay you back in the form of A Car In 2082? Let’s do it! I’ll do that all day long.

The thing you seem to be worried about actually has the opposite sign from what you think.

And what’s this about ‘getting rid of entitlements’? Okay, unfortunate choice of words. What you’re actually saying is that parents shouldn’t be able to use wealth to help give their children nice lives. The state should be used to disallow this.

You sure have a lot of human-nature to overturn. Must be tiring.

Comment by Sonic Charmer

>What you’re actually saying is that parents shouldn’t be able to use wealth to help give their children nice lives.

An appeal to emotion! How Liberal of you.

No, parents should be able to use their wealth to give their children nice lives, nice in the sense of Christmas presents and 16th birthday cars and jazz like that.

Parents should not be able to use their wealth to give their children nice lives in the sense of “never have to work a day in life, be a member of a de facto aristocracy”

Comment by anon

I’m not trying to ‘appeal to emotion’ whatever that means. I’m trying to understand what putting your views into practice – your views that on what other people ‘should not be able to use their wealth’ for – would entail.

At the very least, by your own statements here on grandfathered wealth, it would involve the state intervening and deciding, for parents, whether their use of wealth on their children is (a) to give their children nice lives in a way you approve of (wait – ’16th birthday cars’? how spoiled – I never got such a thing!), or (b) to give them nice lives in a way you disapprove of (‘never having to work a day’ or whatever the criteria are).

And who’s gonna make that call? As far as I can tell, you are, I guess.

We’re going to have to consult you an awful lot, on everything. Is the ‘money system’ fixed yet? Dunno, let’s ask anon. Can this parent give this asset to his kid? Dunno, let’s ask anon.

That’s basically your vision for tax policy isn’t it? That taxes ought to be used in order to make sure all property is used on things that you approve of and not on things you disapprove of. And ultimately, you reserve the right to override other peoples’ preferences on their uses of their property. Or rather, your/our property. I mean, right? What am I saying that’s not accurate exactly?

Comment by Sonic Charmer

P.S. How will we know that enough people have been taxed that the ‘money system’ is no longer ‘broken’? Will you tell us? I sure hope so!

Comment by Sonic Charmer

[…] asked this deep in some comment, but am bringing it up here just in case there’s an actual […]

Pingback by Raising taxes: what’s the actual argument? « Rhymes With Cars & Girls

Think about the return Buffet gets from a 30 second phone call to his editorial ghostwriter.

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