And what rough beast, its hour come round at last,
Slouches towards Bethlehem to be born?
– William Butler Yeats, “The Second Coming”
You know that old expression, “A goose walked over your grave?” Your humble editor always thought it the type of thing grandmothers said to grandchildren when they got the chills.
Rarely does that shivery goose-pimple feeling come from reading a piece of market research... let alone a dry piece of investment commentary from a bank. But this time it did.
Wegelin & Co. has been in the private banking business since 1741. Thirty-five years before America got round to revolution, Switzerland’s oldest bank was catering to wealthy clientele.
It’s been a prosperous quarter millennium (268 years to be precise). Wegelin & Co. now has nine locations, more than 450 employees, and client assets worth more than CHF 20 billion, according to the Swiss Private Bankers Association.
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Now a new, darker chapter has opened in the Swiss history books. Wegelin has chosen to say “Farewell America” – both figuratively and literally.
“Farewell America” is the actual title of an Aug. 24 investment commentary put out by Wegelin & Co. You can read it in full here as archived on Scribd.com (hat tip Zero Hedge).
The title “Farewell America” is fitting because, in the final section of the document, Switzerland’s oldest bank reveals a momentous decision. Wegelin & Co. is in the process of recommending that clients “exit from all direct investments in US securities... on the grounds of the threat of inheritance tax coupled with uncertainty as to whether one might not, one way or another, be turned into a US person.”
An Iron (Tax) Curtain
Wegelin makes a very strong “Farewell America” case over the course of seven or eight pages.
The gist of their argument, as your humble editor sees it, is that a new iron curtain – an iron tax curtain – is descending on the world, and that, for foreign investors at least, America’s state of moral and fiscal decline makes it no longer worth the legal risk to invest in U.S. assets.
How did it come to this, you ask?
The United States, in the afterglow of its role as a 20th-century superpower – now in dire need of hard cash – has elected to enforce some of the most Byzantine and draconian tax laws in the world.
Like a malevolent octopus, Uncle Sam sees fit to reach in the pockets of U.S. citizens wherever they are on the planet... and now non-U.S. citizens too when possible.
As Wegelin describes it – and to your editor’s shock and disbelief – the IRS (U.S. Internal Revenue Service) considers all U.S. assets subject to a possible inheritance tax, almost regardless of who holds them or why.
The IRS also enforces an extremely vague and cloudy set of guidelines as to what circumstances make an individual a “U.S. person,” and thus subject to U.S. tax.
Based on murky IRS precedent, there is a risk of a non-U.S. investor accidentally stumbling into legal taxation treatment as a “U.S. person” – regardless of whether said investor has a U.S. passport or has even ever set foot in the United States.
A Mafia-Style Power Grab
The trouble for banks – Swiss banks in particular – is that newly tightened IRS rules put them in jeopardy now. As the custodian of a wealthy client’s assets, a private bank (like Wegelin) can be held liable if some hidden box is not properly checked.
For example... if, say, a wealthy Egyptian tries to pass on a large inheritance to his five heirs, and a hidden proviso is triggered that makes just one of the heirs qualify as a “U.S. person,” then the entire inheritance can be subject to U.S. tax in certain cases... and the private institution handling the details can be held liable. A small mistake means American tax authorities can go after the bank for billions.
This type of risk is not acceptable to a limited partnership like Wegelin (in which the private owners of the organization take on unlimited legal liability). It is far more acceptable to faceless public corporations, in which overpaid executives are happy taking risks with other people’s money.
In this, the murkiness of U.S. tax law – and the very real threat of capricious force or penalty – is a bit like legally sanctioned mafia racketeering. The American government can dream up whatever bizarre tax code twists and turns it likes to snare more international tax revenue... and the custodial banks at the receiving end of the abuse (for they are the ones with legal exposure to U.S. courts when clients trip up) can do little but grin and bear it.
And so, in becoming ever less friendly to foreign investment interests, the United States government is making a very smug bet. It is betting that mafia-style taxation tactics of shakedown, coercion and threat will be tolerated because the United States itself is such a vibrant investment center.
The general idea in beady-eyed bureaucrats’ heads is that Uncle Sam can squeeze the world with impunity, because foreign investors (and banks like Wegelin) need Uncle Sam more than he needs them.
Enough Is Enough?
But now, in its “Farewell America” commentary, Switzerland’s oldest bank has taken a stand and said, “enough is enough.” The Swiss are known for being perhaps the most pragmatic people on earth, and in keeping with that standard, Wegelin & Co. has decided that the grasping hand of Uncle Sam has reached too far.
Some will write off Wegelin’s quiet rant as sour grapes from a busted tax haven promoter. But it is more than just a rant for at least two reasons. One, because Switzerland’s oldest bank is actually putting its money where its mouth is; and two, because the case for American moral and fiscal decline is so compelling.
In the letter, Wegelin gives a blow-by-blow description of how America first lost its moral authority... and how the loss of fiscal authority soon followed. As Wegelin puts it on page six,
...the usual sources of finance for the American state are drying up. The last hope of salvation comes from the Fed, which, with its quantitative easing programs for printing money, is currently having to buy up to half the newly issued debt, month after month.
This will be OK as long as it’s OK. A Ponzi scheme, for that is undoubtedly what we are talking about, goes on working as long as its growing overindebtedness does not arouse any doubt among the public as to the scheme’s continuing performance, and the flow of funds to the scheme is not significantly disturbed by other influences. As we know, Madoff’s scheme only collapsed when individual creditors had liquidity problems and were obliged to withdraw funds.
We now believe that the combination of the US tax authorities’ anti-capital-market plans with the Treasury’s specific financing problems could result in such a situation...
Wegelin goes on to speak of “Rats leaving the sinking ship,” adding that “without in any way wishing to overdramatize matters, we do believe that such signals should be taken seriously.” This is because the rats, whose actions speak louder than words, “often know the crucial aspects of the ship better than the captain and the officers.”
Old Prophecies Revisited
The Wegelin & Co. commentary has inspired your editor to reread an old favorite – a book called The Sovereign Individual by James Davidson and William Rees-Mogg.
First published in the mid-1990s, The Sovereign Individual is remarkably prescient. It was one of the first texts to get your editor well and truly hooked on top-down, “big picture” style thinking, and is still one of the best. If you haven’t read the book, check it out... it could leave you reeling.
All too many predictions from The Sovereign Individual are coming true now. Some were way out there, but many are right on the mark. In particular, the bits about a dying nation-state come to mind... an angry beast lashing out in desperation, trying to rein in sovereign individuals and consume their assets to the greatest extent it can.
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On reading the Wegelin piece, a colleague and friend remarked that “The American Experiment was a one-time deal and it is now ending badly… where will that idea alight next?”
Very hard to say... one can imagine negotiated tax-treaty jurisdictions of the sort dreamed up by Davidson and Rees-Mogg, in which mobile individuals flee from the regimes that seek to milk them like cash cows.
But one can also imagine a “Mad Max” style endgame dominated by a slowly failing state... pristine enclaves of wealth and privilege existing as barbed wire oasis compounds within a poverty-blasted economic desert landscape.
The chill, then, arises because so many of the dark prophecies are coming true. The old seers and doomsayers are no longer being laughed at. Instead, the steady march of reality is heeding their words.
Is it any wonder gold and silver are heading into the stratosphere as the truth sets in?
Warm Regards,
JL
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