Patient Capital Jude Wanniski March 24, 1998

Memo To: Bob Rubin, Treasury Secretary
From: Jude Wanniski
Re: Holding Period on Capital Gains

On "Evans&Novak" last weekend, you said the reason you insisted last year that the capital gains holding period should be 18 months instead of 12 months or no months was to force capital to be more patient. You indicated it had nothing to do with revenues to the Treasury, although you said you didn't know if Novak was correct in stating it would not have cost Treasury anything. I don't know where you got the idea of "patient capital," but almost any serious economist, including Dr. Lawrence Summers, your deputy, would surely tell you that there is no such thing. It implies that an 18-month holding period will keep the value of a capital asset at a higher level than it would be if the holding period were 12 months. There can be no other meaning, Bob, as the only reason a company might benefit from patient capital is if it could collateralize its market capitalization. If you think the 18-month holding period will prop up market caps, you would also have to argue that if the holding period went to 12 or 6 months, there would be a sell-off as the patient-capital props were knocked out from under the equity markets. If you adopted the "patient capital" without thinking about what I've said here, I can see how you would infer a longer holding period would be better than a shorter one.

CEOs of major corporations generally believe that when the value of their company shares goes into decline, it is due to bad speculators who are selling short or cashing in gains before they should. The holding-period idea came out of the Great Depression, when all kinds of silly ideas were adopted because nobody knew why Wall Street crashed. Your own career on Wall Street should have taught you that capital markets do not need government prohibitions against trading. Regulation is needed in order to keep an eye on the human element in the mechanisms, but to stop willing sellers from selling to willing buyers is antithetical to the very idea of a liquid capital market.

Again, Deputy Treasury Secretary Larry Summers will be able to tell you privately and quietly that the concept of patient capital is fallacious. Worse, the longer holding period has the effect of smothering capital formation that would otherwise occur. The longer holding period means there is an added risk to holding a financial asset, especially equity in fledgling firms. Any added risk at the margin discourages some capital from forming to finance an otherwise reasonable investment. A lower holding period on capital gains very definitely helps the newer enterprises, the NASDAQ companies, the Russell 2000, the entrepreneurs of America. I'm not talking about Bill Gates, who has all the capital he needs. I mean the potential competitors of Microsoft, who face the capital he needs. I mean the potential competitors of Microsoft, who face the added burden of not getting capital that might be available if the added risk of a longer holding period were removed.

President Bush campaigned to cut in the capital gains tax when he ran in 1988. At the time, his son, now governor of Texas, told me his father learned to appreciate the fact that capital gains need not require a holding period — because of his experience as a wildcatter after he left Yale with a degree in economics. He said when a wildcatter hits a gusher, he wants to sell it immediately to someone who wants the income from a gusher, so he can take his gains and drill for another. The capital market — like a gambling casino — has all kinds of people looking for all kinds of bets. People who want income don't want risk. They buy bonds. That's patient capital.