Life is unfair. And we Americans prefer it that way.
But only, finally, up to a point. Sooner or later some of our shrewdest, luckiest financial hustlers push their luck and overreach, and respectable society decides that a red line has been crossed. Shame is rediscovered. And this summer, we’ve reached one of those uproar points. The freshly derided plutocrat-racketeers are the men, a plurality of them New Yorkers, who run the biggest private-equity funds. As the Blackstone Group and KKR have rushed to go public, the world at large has learned that most of the fees they charge are taxed not as ordinary income, at a rate of 35 percent, but as capital gains, at a rate of 15 percent. Thus do the staggeringly rich get staggeringly richer.
Are they being scapegoated? Is their shocking but nevertheless legal bonanza being singled out for opprobrium as a way of expressing eleventh-hour disgust at the callous excesses and inequalities of our hypercapitalist era? Yes and yes. But being a scapegoat isn’t the same as being innocent. Sometimes examples must be made. Life is unfair.
There was an almost algorithmic inevitability to this moment. In 2003, capital-gains taxes were reduced to their lowest rate since World War II, and since then stock prices have risen and risen, almost doubling as all the indexes peaked last week, while interest rates have remained low— a fairy-tale-perfect climate for the private-equity players, who buy public companies with debt and take them private, fire employees and sell off assets, borrow more money to pay themselves back in fees and dividends, and then take the companies public again in a rising stock market. But the political weathers are now, predictably, turning against them—a Washington regime in profound disrepute, a wide-open presidential-election campaign with strong Democratic candidates, and, just maybe, the beginning of the end of our present 30-year cycle of free-for-all political economics.
But if you talk to people in the private-equity business, they’re not so fatalistic about the historical trend lines. In fact, they’re even more inclined to scapegoat. For them, it’s personal. When I called a private-equity guy I know, he instantly snarled, “It’s all Steve.” In other words, he blames the current anti-private-equity spasm not on whiny anti-business liberals, but on Steve Schwarzman, the chairman, CEO, and co-founder of Blackstone. With Blackstone’s IPO a month ago, Schwarzman’s wealth ballooned to at least $10 billion, meaning he’s now one of the very richest New Yorkers, richer than Rupert Murdoch, Ron Perelman, and Michael Bloomberg—maybe the richest of all.
“If my world is pissed off at anyone,” says my friend, “it’s Steve. The fucking birthday party”—which he attended in February along with hundreds of other Schwarzman associates—“where no one gave a toast, by the way, not one.” The new head of the National Venture Capital Association went on the record last month about Schwarzmania: “We’re where we are right now because of the unbelievable egos of guys running the private-equity firms like Blackstone. They put big targets on their backs by what I consider stupid actions like throwing these big parties.”
Beyond resentment and conspicuous consumption and unfairness, some of the more thoughtful members of the high-finance fraternity also worry that the suddenly enormous scale of private-equity control of the global economy is a little scary. In 2001, all the private-equity takeovers totaled $71 billion; in just the first half of this year, the deals amount to more than $600 billion. The handful of largest firms now control a trillion dollars’ worth of companies. And the companies we’re talking about are no longer a few fringe players but a lot of big name-brand pillars of American business, like Chrysler, Hertz, GMAC, Clear Channel, Toys ’R’ Us, Neiman Marcus, and Bausch & Lomb.
Private-equity players cast themselves as white knights, nurturers of underperforming companies—yet their intent is always to get in and out of an investment in a very few years, not to stay and build. In their heart of hearts, my private-equity pal insists, his peers are users: “If this company we buy, in three years it’s trashed, but our partners make triple their money? We don’t care. And 32-year-old idiots from KKR and the rest are now on the boards of directors of major companies.” The barbarians have breached the gates and are, as never before, stewards of the empire. Which may or may not work out so well for the rest of us.
Steve Schwarzman is a perfect poster boy for this age of greed, sharklike, perpetually grinning, a tiny Gordon Gekko without the hair product. In Palm Beach (where he bought a historic landmark house for $20.5 million and tore it down), he eats his three-course lunches (including $400 stone crabs) in less than fifteen minutes and complains about the squeaky rubber soles of a servant’s shoes. Once, in the presence of a Times reporter, he buzzed a man to bring coffee, then stalked off to dress down the servant—“I called you six times.”
At his 60th-birthday party, a brass band welcomed guests into the Park Avenue Armory; Rod Stewart, Patti LaBelle, and the Abyssinian Baptist Church choir performed. A giant portrait of the birthday boy, which ordinarily hangs in his living room at 740 Park (a 34-room apartment he bought, I swear, from ruined eighties takeover troll Saul Steinberg), was trucked five blocks for the party.
Two weeks after the party, Schwarzman told his assembled private-equity peers at a conference that “the public markets are overrated,” and that for firms like theirs “to divert yourself like that and then take on that cost is really not worth it.” But only a couple of weeks after that, it turned out that he and Blackstone were, whaddaya know, about to go public. Ostentatious, churlish, megalomaniacal, tone-deaf—and a hypocritical dissembler to boot.
The duplicity was especially galling given that a central premise of private equity is that they can rescue beleaguered public companies by taking them private and forcing the tough-but-necessary business choices without the pressures of quarterly earnings reports and shareholder second-guessing.
So why have Blackstone and KKR suddenly decided to submit themselves to all that pesky public-market scrutiny? The true answer, of course, is because interest rates are rising and Democrats are taking control in Washington, and the private-equity boys know the party is probably almost over and that only by means of the dumb money of IPOs can they sweep as much cash as possible off the table before the good times end.
The interesting thing about the private-equity tax scandale, apart from the fact that it’s the result of instant wholesale public disapproval rather than indictments—who knew we still had that in us?—is that it’s not only the pointy-headed usual suspects tsk-tsking. Prominent rich guys (Warren Buffett, Robert Rubin) and pro-business stalwarts (The Economist) are agreeing that, yes, it may be legal but it’s untoward, unfair, unnecessary, and makes their beloved capitalist system look rigged and piggish.
Thus the politicians have plenty of cover to tweak the tax code without looking like commies. Which is why Max Baucus and Charles Grassley, the Democratic chairman and the ranking Republican of the Senate Finance Committee, have just introduced a bill that would tax publicly traded private-equity firms as normal corporations.
John Edwards (who was paid $480,000 in 2006 by Fortress Investment Group, the first private-equity firm to go public) declared that “building one America means getting rid of loopholes like [this]” and within 48 hours Hillary Clinton and Barack Obama leaped on the bandwagon. (Mitt Romney, whose fortune derives mainly from having co-founded the private-equity firm Bain Capital, did not.)
And Steve Schwarzman is squealing like a pig at the prospect of being allowed to keep, say, a mere $260 million of his pay after taxes this year, rather than, oh, $340 million. Last month, as he was accepting a Legend in Leadership Award from Yale, he said gravely, “There’s a crisis going on.” A crisis? Really? Like Iraq and climate change and aids in Africa?
The private-equity apologias are disingenuous in the extreme. Since they manage pension-fund money, they’re using retirees as human shields. John Snow resigned last year as Treasury secretary to become chairman of the private-equity outfit Cerberus. Firms like his, he said on CNBC this month, are “providing a means for schoolteachers, state employees, firemen, and policemen to get better retirement than they would otherwise have. If you tax it, then you’re going to be adversely affecting the ability of average Americans to have better retirements.” Yet only tiny percentages of most pension funds are run by private-equity firms.
This is all new territory. Two decades ago, the detonator of the current controversy, the tax differential between capital gains and ordinary income, didn’t even exist, since under Ronald Reagan’s Tax Reform Act of 1986, income was income, all of it taxed at the same rate.
In his 2005 book Running on Empty, the old-fashioned Republican Pete Peterson, Schwarzman’s co-founder of Blackstone, calls it a Republican partisan myth that the Bush tax cuts have been a healthy economic prod rather than a boondoggle for him and other rich people. Lowering taxes has not increased our rate of national savings—and, as Peterson writes, in the nineties, “a liberal president who had said no to capital-gains cuts and who had hiked the top marginal income-tax rate from 31 to 40 percent was presiding over the most spectacular equities boom in American history.”
The new brouhaha is not about igniting a “class war,” but about avoiding one by constraining the most grotesque unfairness. It’s a question of grace—noblesse oblige, if you will. Yes, we want to encourage businesspeople to take risks—but private-equity and hedge-fund managers have invented businesses from which real, personal financial risk has been practically eliminated. “They’re not risking anything,” says my private-equity friend. In fact, don’t we owe it to these postmodern heroes of global business to threaten to tax them fairly—off with their … pinkies!—in order to inject some real, invigorating risk into their world?