“It is not very unreasonable that the rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion.” - Adam Smith, Wealth of Nations, 1776
When flicking through The Australian Financial Review last weekend, comments by two of our most-respected fund managers caught my eye. They were a pleasing contrast to the market professionals who base their success on skill in picking trends and identifying great companies.
First, Kerr Neilson, Founder of Platinum Asset Management:
“… as a family, we’ve always understood that good fortune is often just luck. Your origins have a huge impact on how life unfolds, and a single bad turn doesn’t deserve a life of purgatory.”
Then John Pearce, Chief Investment Officer at Unisuper, explained his good run in the last decade:
“There are always many success factors, including luck.”
Some academics spend their lives investigating luck versus skill in investing, and there are shelves of business books on the topic, but this article is about a more fundamental luck at the start of our lives.
Warren Buffett on luck and the ‘ovarian lottery’
David Kass is a Professor of Finance at the University of Maryland in the US. According to CNBC, he was the first to publish Warren Buffett’s views on luck and the ‘ovarian lottery’ based on notes Kass took when Buffett was speaking at a 2013 graduate student event. Kass recalls:
“Warren Buffett has stressed the importance of luck in his life, focusing not only on where he was born but also when. His primary skill of allocation of capital has worked well for him in the United States and in his lifetime. Having the good luck to win the ‘ovarian lottery’ is a major determinant in success in life in general and in business in particular.”
Buffett was influenced by John Rawls, a philosopher at Harvard who wrote a book called ‘A Theory of Justice’. He argued that a just society must be based on principles everyone agrees to before knowing where they are placed within society.
Buffett explains it this way:
“Just imagine that it is 24 hours before you are born. A genie comes and says to you in the womb, 'You look like an extraordinarily responsible, intelligent, potential human being. [You’re] going to emerge in 24 hours and it is an enormous responsibility I am going to assign to you, the determination of the political, economic and social system into which you are going to emerge.
You set the rules, any political system, democracy, parliamentary, anything you wish. You can set the economic structure, communistic, capitalistic, set anything in motion, and I guarantee you that when you emerge, this world will exist for you, your children and grandchildren. What’s the catch? One catch - just before you emerge, you have to go through a huge bucket with 7 billion slips, one for each human. Dip your hand in and that is what you get …”
Buffett has spoken about this many times since so there are variations on what he said but the principles are the same. Other times he has been more explicit about the individual:
“The catch is that you don’t know any details about what your place in the world will be. Your gender, race, nationality, health, intelligence level and all other defining characteristics are left up to chance.”
What kind of society would you construct?
My guess is that most of us would create a world of opportunity, choice, equality and fairness in case we were about to be born in a refugee camp in Somalia.
Buffett says he and his business partner, Charlie Munger, won the ovarian lottery and after that incredible piece of luck, the rest fell into place. The ovarian lottery is:
“The most important event in which you’ll ever participate. It’s going to determine way more than what school you go to, how hard you work, all kinds of things.”
In another interview, he explained gender and race advantages:
“The womb from which you emerge determines your fate to an enormous degree for most of the seven billion people in the world. Just in my own case: I was born in 1930, I had two sisters that have every bit the intelligence that I had, have every bit the drive, but they didn’t have the same opportunities. If I had been a female, my life would have been entirely different.”
“You don’t know whether you’re going to be born black or white. You don’t know whether you’re going to be born male or female. You don’t know whether you’re going to be born infirm or able-bodied. You don’t know whether you’re going to be born in the United States or Afghanistan ... I mean, Charlie - when we were born the odds were over 30-to-1 against being born in the United States, you know? Just winning that portion of the lottery, enormous plus.”
Even when he started investing, the luck did not stop:
“We won it in another way by being wired in a certain way, which we had nothing to do with, that happens to enable us to be good at valuing businesses. And, you know, is that the greatest talent in the world? No. It just happens to be something that pays off like crazy in this system.”
What would Buffett like to see?
The world we have created allows people in power, mainly business or politics, to set the rules after they know where they stand in the ovarian lottery. Once we have accumulated our personal wealth, often through diligence, sacrifice and hard work, we feel entitled to keep it.
Warren Buffett is worth over US$100 billion so it’s easy to criticise him, but he says:
“The trick, it seems to me, is to have some balance that causes the people who have the talents that can produce goods that people want in a market society, to turn them out in great quantity, and to keep wanting to do it all their lives, and at the same time takes the people that lost the lottery and makes sure that just because they, you know, on that one moment in time they got the wrong ticket, don’t live a life that’s dramatically worse than the people that were luckier.”
And so when asked about US policies that reduce taxes for wealthy people, he said he does not need a tax cut. He said eliminating estate taxes when assets are passed to another person at the time of death would be a “terrible mistake” because the US system already vastly favours the rich.
“I sure don’t think it’s good for a society where there’s a ton of inequality to start with. I think that’s a terrible mistake.”
He has also spoken out about lower taxes on capital gains than wages, where he has said, “I'll probably be the lowest-paying taxpayer in the office." He supported a minimum tax on top wage earners like himself which became known as the Buffett rule.
Who dares loses as Labor is wedged on principles
Without taking sides on individual issues, the main reason the Labor Party has abandoned its previous policies on negative gearing, capital gains and franking credits is not because leaders in the party no longer support the ideas. The same people were arguing fiercely for these policies at the last election.
No, Labor has decided there is no point sinking on a principle and nothing can be achieved from opposition. They have removed the policies because they know they cannot win by threatening the plans millions of voters have made for their wealth preservation. Franking credits became the ‘retiree tax’. Political opponents falsely dragged out a ‘death tax’ at the last election, which was not on the policy agenda. So it's better to be a small target.
Peter van Onselen and Wayne Errington have released a new book called 'Who Dares Loses: Pariah Policies'. It explains why no political party is prepared to threaten the favourable tax and social security treatment of the family home although the greatest benefits go to the wealthiest people. The power of property ownership is so strong that even adjusting policies for investors is difficult. They say:
"One of the problems, however, is that the population bubble of baby boomers has a disproportionate impact on electoral politics. While taxing the family home remains in the broader sense a pariah policy, in post-pandemic Australia, it will at least increasingly be discussed."
That's unlikely for some time. No political party dare threaten that sacred cow.
The policy acceptance which must have caused the most angst in the Labor Party is supporting the legislated stage-three tax cuts to come into force in 2024-25. At a time when budget pressure to reign in massive deficits is likely to be greater than ever before, hopefully coming out of the pandemic, the stage-three tax cuts flatten the marginal income tax rate for anyone earning between $45,000 and $200,000 to 30%. A person on $200,000 will receive a tax cut of about $9,000 a year. Between $180,000 and $200,000, the top marginal rate cuts from 45% to 30%. The cost to the Federal budget will be $19 billion a year.
Shadow Treasurer, Jim Chalmers, who would hold the purse strings as Treasurer if Labor wins the 2022 election, previously described these tax cuts as:
"the least affordable, least fair and least likely to be effective because high income earners aren't as likely to spend in the economy as workers of more modest means."
It is likely that higher income earners have benefitted most from surging house and asset prices in 2020/2021, and now Labor is supporting their tax cuts. That's politics and the price to win office when people vote with one hand on their wallet.
What would you do?
To come back to Buffett's question, it is 24 hours before you are born, and you can set the rules for society. You look into a massive bucket and there are (now) over 9 billion slips in there, and one of them represents your life.
(Or you're an Australian politician facing a trillion dollars of debt and at some stage, taxes need to pay for spending).
Start writing the rules.
Graham Hand is Managing Editor of Firstlinks.