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The Year In Review from the Cherrytree Group

[fa icon="calendar"] Dec 30, 2014 7:16:00 PM / by Warren Kirshenbaum

       The year began on a high note, when in January, Janet Yellen was sworn in as the first woman Chairman of the Federal Reserve.  Faced with an uncertain economy, the federal funds rate set at close to zero since late 2008, and the quantitative easing program (buying long term securities to push down long term interest rates) having saddled the Fed with $4.5 trillion of assets, the tenure of Janet Yellen was coming at a seminal time, and she was facing formidable challenges.  Yet, Ms. Yellen was able to reassure the marketplace that she was the correct choice and would continue to steer the same monetary policy instituted by her predecessor, Ben Bernanke that markets had become dependent upon.  The equity markets responded by continuing their upward momentum, the dollar strengthened, and the bond markets, particularly US treasuries continued to offer attractive rates, allowing us to continue the trend of borrowing to cover our voluminous national debt.  Things seemed to be headed in the right direction.
     However, beginning in February, seemingly isolated events (both from 2014 and prior years) began to cobble together to form the cornerstones of a changed world order.  

     Ukranian President Viktor Yanukovych, who was steering the Ukraine away from EU membership and into the arms of mother Russia, was ousted.  For the Western World this was a welcome event, as EU membership was seen as a means to strengthen the Ukraine.  However, Russian President Putin, due to his deep desire to return Russia to its former glory, was furious. The Russians began sending unmarked military personnel and equipment into the Ukraine in a stealth invasion.  Many of the world’s Western powers, as well as influential Middle Eastern countries vigorously objected to Russia’s actions.  Undeterred, Russia, which later annexed the Ukranian territory of Crimea, continued these clandestine operations.  This latest Russian standoff had its roots in 2013 when Russian diplomatic ascendancy began to influence US foreign policy, generating profound effects we are now living through.  The Syrian civil war, which began in 2011 when the government of Bassar al-Assad responded to the Arab Spring protests with untoward violence, had escalated into armed opposition against Assad’s forces.  By September 2013, after the UN confirmed that Assad had used chemical weapons on his own people, the US was poised to attack Syria, and President Obama needed to show resolve and stay the course.  Russia, a Syrian ally, stepped in to help broker a deal to turn over Syria’s chemical weapons and avert a US strike after John Kerry inadvertently stated as much.  The averted US strike, which tarnished the US’s military resolve, also infuriated our allies in Saudi Arabia.  Although difficult to directly attribute these events to future occurrences, it can be argued that, even though the US would have struck the Assad regime and not the rebels, such as ISIS (the former Al-Qaeda in Iraq), the power vacuum in Syria allowed ISIS to emerge as the prominent force battling the rebel forces.  ISIS’s goal, however, was not to aid the uprising, as the US would have done, but to create its own State.  
     It was against the Russia/Ukraine backdrop that Russia proceeded to host the Winter Olympics in Sochi, further inflaming world sentiment. While Russia’s renewed confidence was on display, it was not clear at the time that the financial cost of Sochi, and the political cost of the Ukraine would come back to haunt Russia. However, the damage had already been done.  The US and the EU had imposed stiff sanctions against Russia, yet Putin had laughed off the West’s response, particularly those of President Obama and his diplomats.   These actions portrayed a further erosion of the US’s international standing.  By year-end, however, steep oil price declines, the bite of sanctions, with the US’s rise as an oil producer, and OPEC’s decision to keep oil production at current levels, would cause the Ruble to collapse, serving to cripple Russia’s economy.  Putin’s gamble in that regard does not seem to have paid off, although his ability to minimize the US and expose the weaknesses of President Obama will have long-term effects in the way in the world views and deals with the US going forward.  Bubbling under the surface was the Saudi Arabian disappointment at the US’s non-action in Syria, which, coupled with increased oil production in the US, and the concomitant oil price declines created tension between the US and its oil allies in the Middle East, testing relationships that have been on solid ground since the end of the Second World War.  

     In March, Malaysian Airlines Flight 370 simply disappeared, and to this day has not been located.  This hard to fathom event, and the realization of the fragility of life in the world in which we are currently living became starker with that event.  

     By April, Putin had openly moved into Ukraine, showing an utter disregard for the Western World’s objections to his military annexation.  With all this going on, the world, almost unbelievably, became focused on a murder trial in South Africa, in which an Olympic athlete with no lower limbs, who ran on metal blades, killed his girlfriend by firing multiple gunshots through a locked bathroom door, and then claimed to have acted in self-defense, not by threat from his girlfriend, but from the imminent danger that now surrounds suburban South Africans.  He hoped that the imminent danger theory, together with his own heightened fear would serve as a justification defense.  In fact, he correctly positioned himself, as the results of the case showed that this juxtaposed African version of self-defense solidified the concept of monkey justice.  Not to be outdone by a fantastical murder trial on the southern tip of the Continent, Boko Haram militants killed 300 people in a single night in Nigeria and kidnapped 276 schoolgirls and have held them hostage since April.

     In June, the World Cup gave hope that a sport could unify the world, which seemed to be on a gradual course toward self-obliteration.  However, while soccer filled our TV screens, and we hoped for tranquility, by the time June turned into July, bombs were reigning down on Gaza, while rockets were being launched into Israel.  Before our eyes a full scale Israeli/Hamas conflict would escalate into a 50 day Middle East devastation. 

     August in the US brought a fresh escalation of tension as an unarmed black teenager was shot and killed in Ferguson, MO by a white police officer.  A grand jury decision to forgo an indictment against the officer, and a second grand jury in New York that declined to indict a white police officer involved in the killing of an unarmed black male, ignited a rage of anti-police sentiment, riots, and demonstrations that roiled major US cities from coast to coast, and culminated in the assassination of two police officers in New York City in December.  

     Back in September, Ebola, the deadly disease ravaging West Africa made its way to US shores, when an infected man traveled to Dallas and was not immediately diagnosed, leading to several more US Ebola diagnoses and a full-scale panic.  If all of this was not enough, to paraphrase Moses in Exodus, in October, ISIS captured large swaths of territory in Iraq and Syria and, as a self proclaimed Caliphate, installed itself as a self-governing terrorist nation, financing itself through extortion, ransom, bribery, and thievery, and claiming to rule on captured territory sovereign to other nations. ISIS now poses the greatest threat to not only the Western World, but the Middle East and Islam itself.  ISIS, which claims to be an Islamic State, through its criminal activity amassed a financial war-chest, used its ideology to recruit thousands of soldiers from Western nations, as well as the traditional Middle Eastern and Eastern European hotbeds, and attacked and commandeered cities, towns, villages, and their residents adding to the Middle East refugee and humanitarian crisis imposed by the Syrian civil war.  The events in the Middle East were befuddling to the US, Western nations, and even other Middle Eastern countries.  The US, together with its allies conducted seemingly meaningless, yet expensive bombing campaigns of ISIS.  Once again, earlier US missteps had come back to haunt us, while President Obama was preaching economic equanimity and Congress remained deadlocked with itself.  In a rare flicker of hope, the month of October also held promise that 219 of the girls kidnapped by Boko Haram would be released in a deal brokered between the group and the Nigerian government after a month of negotiations in Saudi Arabia.  Unfortunately, however, that release did not materialize.  These events are jarring to the human spirit, and they add to our baseline feelings of apprehension and uncertainty.  

     In November, the Republicans won back Congress in the midterm elections, trouncing a hapless Democratic Party that under Obama’s leadership had veered too far left of the political spectrum.  With the Republicans seeming to have beat back the Tea Party challenge, they are poised to begin to press their legislative agenda beginning in 2015.  Although any leadership in Washington is better than deadlock, for us in the tax credit world, this new Republican Congress creates a mass of uncertainty.  Evidence of this came on December 11th, when House Ways and Means Committee chairman Rep. Dave Camp, R-Mich., introduced legislation that proposes to retain the low-income housing tax credit (LIHTC), doesn’t mention the new markets tax credit (NMTC) and proposes the repeal of the historic tax credit (HTC) and renewable energy tax credits  (RETCs).  Meanwhile, the U.S. Senate Finance Committee Republican staff on the same day released a report calling for “permanence and certainty,” indicating that some tax credits should be enhanced and made permanent.   With such mixed signals, prognosticating the future has become that much more difficult.

     To cap off this unbelievable year, in December, a fictional movie about the assassination of North Korean dictator, Kim Jung Un, caused an uproar when hackers apparently acting on behalf of the North Koreans infiltrated the email of Sony Pictures, releasing sensitive corporate emails. Thereafter, threats of violence against theatres slated to show the movie, forced a major US corporation to initially agree to not distribute the film.   Free speech prevailed and the film was released to limited theatres and via online gaming consoles.  At around the same time, President Obama moved to open diplomatic channels with Cuba by agreeing to a prisoner exchange, and restoring some economic and diplomatic ties between the two countries.

     So, how do the year’s events affect the tax credit industry?

     The tax credit marketplace, like all capital markets thrives on certainty and predictability, particularly political stability.  While some political uncertainty can drive tax credit demand, such as a belief that an Obama Administration will look to tax increases to fund its political agenda of lessening economic disparities, political instability that purports to affect the statutory mandate backing tax credits negatively affects access to capital and the pricing of capital as well as those of tax credits.  Conceptually, tax credits are a privatization of certain governmental functions, such as affordable housing, renewable energy generation, and historic preservation, in the theory that the private sector can more effectively put public funds to work in these areas than the government can.  With worldwide political uncertainty, a dysfunctional US Congress, a liberal US President who makes business leaders nervous, this seems like a more solid bet than in years past.  However, we also have a raging bull market, a stabilizing, and growing US economy, increased consumer and business confidence, and corporate profit growth – all of which are also good for tax credits.  We can only hope that Congress will begin to lead, will not be distracted by world events, and will take decisive action to advance a legislative agenda that does not jettison pragmatic tax programs in order to pay for increased military spending or foreign aid.  Political stability will continue to allow people and companies to consider tax-planning strategy an important element in transactional, entity, and personal planning.  Extending and making permanent the low-income housing tax credit (LIHTC), the new markets tax credit (NMTC), the historic tax credit (HTC) and renewable energy tax credits (RETCs) is the correct strategy.  Uncertainty rattles markets, policy makers, and consumers, which will set the stage for a volatile 2015.  Fasten your seatbelts!

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Warren Kirshenbaum

Written by Warren Kirshenbaum

Warren is the President and CEO of the Cherrytree Group, a tax credit consulting, brokerage, and syndication firm.

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