NCPA - National Center for Policy Analysis

Federal Taxes And Regulations Help Push Stocks Down

March 21, 2001

The principal cause of the falling stock market is excessively tight monetary policy, says Bruce Bartlett; but many laws, regulations and other government policies are also pushing the market down.

For instance, mutual fund investors and employees who exercised stock options last year now owe substantial taxes on shares and options that fell in value.

  • When fund managers buy and sell stocks, they often realize taxable capital gains for fund shareholders, even when they have not sold any of their fund shares.
  • Fund managers may have realized considerable gains on stocks bought in previous years, and the only way to avoid a tax liability is by selling one's mutual shares at a loss to offset the gains.
  • Similarly, employees who exercised incentive stock options early last year created large paper gains; though many options are worth only a fraction of their value a year ago, workers must pay taxes on those paper gains.

Some must sell even more shares to raise cash to pay the IRS. Taxes can also inhibit people from selling, since investors must hold an asset for at least 12 months to get the long-term capital gains rate of 20 percent.

Government regulations are also a factor. A new IRS rule, the Final Withholding Regulations, require foreign financial institutions to provide extensive information about foreign investors in the U.S. Richard Rahn, former chief economist for the U.S. Chamber of Commerce, says these regulations "have caused a massive withdrawal of foreign investment into the U.S. over the last few months, further depressing our stock markets."

George W. Bush should appoint a task force to look into these and other ways government policy might be improved to remove unnecessary burdens on a struggling stock market.

Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis, March 20, 2001.  


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