Tax plan possibilities

Mar 26, JDN 2457839

Recently President Trump (that phrase may never quite feel right) began presenting his new tax plan. To be honest, it’s not as ridiculous as I had imagined it might be. I mean, it’s still not very good, but it’s probably better than Reagan’s tax plan his last year in office, and it’s not nearly as absurd as the half-baked plan Trump originally proposed during the campaign.

But it got me thinking about the incredible untapped potential of our tax system—the things we could achieve as a nation, if we were willing to really commit to them and raise taxes accordingly.

A few years back I proposed a progressive tax system based upon logarithmic utility. I now have a catchy name for that tax proposal; I call it the logtax. It depends on two parameters—a poverty level, at which the tax rate goes to zero; and what I like to call a metarate—the fundamental rate that sets all the actual tax rates by the formula.

For the poverty level, I suggest we use the highest 2-household poverty level set by the Department of Health and Human Services: Because of Alaska’s high prices, that’s the Alaska poverty level, and the resulting figure is $20,290—let’s round to $20,000.

I would actually prefer to calculate taxes on an individual basis—I see no reason to incentivize particular household arrangements—but as current taxes are calculated on a household basis, I’m going to use that for now.

The metarate can be varied, and in the plans below I will compare different options for the metarate.

I will compare six different tax plans:

  1. Our existing tax plan, set under the Obama administration
  2. Trump’s proposed tax plan
  3. A flat rate of 30% with a basic income of $12,000, replacing welfare programs and Medicaid
  4. A flat rate of 40% with a basic income of $15,000, replacing welfare programs and Medicaid
  5. A logtax with a metarate of 20%, all spending intact
  6. A logtax with a metarate of 25% and a basic income of $12,000, replacing welfare programs and Medicaid
  7. A logtax with a metarate of 35% and a basic income of $15,000, cutting military spending by 50% and expanding Medicare to the entire population while eliminating Medicare payroll taxes

To do a proper comparison, I need estimates of the income distribution in the United States, in order to properly estimate the revenue from each type of tax. For that I used US Census data for most of the income data, supplementing with the World Top Incomes database for the very highest income brackets. The household data is broken up into brackets of $5,000 and only goes up to $250,000, so it’s a rough approximation to use the average household income for each bracket, but it’s all I’ve got.

The current brackets are 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%. These are actually marginal rates, not average rates, which makes the calculation a lot more complicated. I did it properly though; for example, when you start paying the marginal rate of 28%, your average rate is really only 20.4%.

Worst of all, I used static scoring—that is, I ignored the Laffer Effect by which increasing taxes changes incentives and can change pre-tax incomes. To really do this analysis properly, one should use dynamic scoring, taking these effects into account—but proper dynamic scoring is an enormous undertaking, and this is a blog post, not my dissertation.

Still, I was able to get pretty close to the true figures. The actual federal budget shows total revenue net of payroll taxes to be $2.397 trillion, whereas I estimated $2.326 trillion; the true deficit is $608 billion and I estimated $682 billion.

Under Trump’s tax plan, almost all rates are cut. He also plans to remove some deductions, but all reports I could find on the plan were vague as to which ones, and with data this coarse it’s very hard to get any good figures on deduction amounts anyway. I also want to give him credit where it’s due: It was a lot easier to calculate the tax rates under Trump’s plan (but still harder than under mine…). But in general what I found was the following:

Almost everyone pays less income tax under Trump’s plan, by generally about 4-5% of their income. The poor benefit less or are slightly harmed; the rich benefit a bit more.

For example, a household in poverty making $12,300 would pay $1,384 currently, but $1,478 under Trump’s plan, losing $94 or 0.8% of their income. An average household making $52,000 would pay $8,768 currently but only $6,238 under Trump’s plan, saving $2,530 or about 4.8% of their income. A household making $152,000 would pay $35,580 currently but only $28,235 under Trump’s plan, saving $7,345 or again about 4.8%. A top 1% household making $781,000 would pay $265,625 currently, but only $230,158 under Trump’s plan, saving $35,467 or about 4.5%. A top 0.1% household making $2,037,000 would pay $762,656 currently, but only $644,350 under Trump’s plan, saving $118,306 or 5.8% of their income. A top 0.01% household making $9,936,000 would pay $3,890,736 currently, but only $3,251,083 under Trump’s plan, saving $639,653 or 6.4% of their income.

Because taxes are cut across the board, Trump’s plan would raise less revenue. My static scoring will exaggerate this effect, but only moderately; my estimate says we would lose over $470 billion in annual revenue, while the true figure might be $300 billion. In any case, Trump will definitely increase the deficit substantially unless he finds a way to cut an awful lot of spending elsewhere—and his pet $54 billion increase to the military isn’t helping in that regard. My estimate of the new deficit under Trump’s plan is $1.155 trillion—definitely not the sort of deficit you should be running during a peacetime economic expansion.

Let’s see what we might have done instead.

If we value simplicity and ease of calculation, it’s hard to beat a flat tax plus basic income. With a flat tax of 30% and a basic income of $12,000 per household, the poor do much better off because of the basic income, while the rich do a little better because of the flat tax, and the middle class feels about the same because the two effects largely cancel. Calculating your tax liability now couldn’t be easier; multiply your income by 3, remove a zero—that’s what you owe in taxes. And how much do you get in basic income? The same as everyone else, $12,000.

Using the same comparison households: The poor household making $12,300 would now receive $8,305—increasing their income by $9,689 or 78.8% relative to the current system. The middle-class household making $52,000 would pay $3,596, saving $5,172 or 10% of their income. The upper-middle-class household making $152,000 would now pay $33,582, saving only $1998 or 1.3% of their income. The top 1% household making $782,000 would pay $234,461, saving $31,164 or 4.0%. The top 0.1% household making $2,037,000 would pay $611,000, saving $151,656 or 7.4%. Finally, the top 0.01% household making $9,936,000 would pay $2,980,757, saving $910,000 or 9.1%.

Thus, like Trump’s plan, the tax cut almost across the board results in less revenue. However, because of the basic income, we can now justify cutting a lot of spending on social welfare programs. I estimated we could reasonably save about $630 billion by cutting Medicaid and other social welfare programs, while still not making poor people worse off because of the basic income. The resulting estimated deficit comes in at $1.085 trillion, which is still too large—but less than what Trump is proposing.

If I raise the flat rate to 40%—just as easy to calculate—I can bring that deficit down, even if I raise the basic income to $15,000 to compensate. The poverty household now receives $10,073, and the other representative households pay $5,974; $45,776; $297,615; $799,666; and $3,959,343 respectively. This means that the poor are again much better off, the middle class are about the same, and the rich are now substantially worse off. But what’s our deficit now? $180 billion—that’s about 1% of GDP, the sort of thing you can maintain indefinitely with a strong currency.

Can we do better than this? I think we can, with my logtax.

I confess that the logtax is not quite as easy to calculate as the flat tax. It does require taking exponents, and you can’t do it in your head. But it’s actually still easier than the current system, because there are no brackets to keep track of, no discontinuous shifts in the marginal rate. It is continuously progressive for all incomes, and the same formula can be used for all incomes from zero to infinity.
The simplest plan just replaces the income tax with a logtax of 20%. The poor household now receives $1,254, just from the automatic calculation of the tax—no basic income was added. The middle-class household pays $9,041, slightly more than what they are currently paying. Above that, people start paying more for sure: $50,655; $406,076; $1,228,795; and $7,065,274 respectively.

This system is obviously more progressive, but does it raise sufficient revenue? Why, as a matter of fact it removes the deficit entirely. The model estimates that the budget would now be at surplus of $110 billion. This is probably too optimistic; under dynamic scoring the distortions are probably going to cut the revenue a little. But it would almost certainly reduce the deficit, and very likely eliminate it altogether—without any changes in spending.

The next logtax plan adds a basic income of $12,000. To cover this, I raised the metarate to 25%. Now the poor household is receiving $11,413, the middle-class household is paying a mere $1,115, and the other households are paying $50,144; $458,140; $1,384,475; and $7,819,932 respectively. That top 0.01% household isn’t going to be happy, as they are now paying 78% of their income where in our current system they would pay only 39%. But their after-tax income is still over $2 million.

How does the budget look now? As with the flat tax plan, we can save about $630 billion by cutting redundant social welfare programs. So we are once again looking at a surplus, this time of about $63 billion. Again, the dynamic scoring might show some deficit, but definitely not a large one.

Finally, what if I raise the basic income to $15,000 and raise the metarate to 35%? The poor household now receives $14,186, while the median household pays $2,383. The richer households of course foot the bill, paying $64,180; $551,031; $1,618,703; and $8,790,124 respectively. Oh no, the top 0.01% household will have to make do with only $1.2 million; how will they survive!?

This raises enough revenue that it allows me to do some even more exciting things. With a $15,000 basic income, I can eliminate social welfare programs for sure. But then I can also cut military spending, say in half—still leaving us the largest military in the world. I can move funds around to give Medicare to every single American, an additional cost of about twice what we currently pay for Medicare. Then Medicaid doesn’t just get cut; it can be eliminated entirely, folded into Medicare. Assuming that the net effect on total spending is zero, the resulting deficit is estimated at only $168 billion, well within the range of what can be sustained indefinitely.

And really, that’s only the start. Once you consider all the savings on healthcare spending—an average of $4000 per person per year, if switching to single-payer brings us down to the average of other highly-developed countries. This is more than what the majority of the population would be paying in taxes under this plan—meaning that once you include the healthcare benefits, the majority of Americans would net receive money from the government. Compared to our current system, everyone making under about $80,000 would be better off. That is what we could be doing right now—free healthcare for everyone, a balanced budget (or close enough), and the majority of Americans receiving more from the government than they pay in taxes.

These results are summarized in the table below. (I also added several more rows of representative households—though still not all the brackets I used!) I’ve color-coded who would be paying less in tax in green and who would be more in tax in red under each plan, compared to our current system. This color-coding is overly generous to Trump’s plan and the 30% flat tax plan, because it doesn’t account for the increased government deficit (though I did color-code those as well, again relative to the current system). And yet, over 50% of households make less than $51,986, putting the poorest half of Americans in the green zone for every plan except Trump’s. For the last plan, I also color-coded those between $52,000 and $82,000 who would pay additional taxes, but less than they save on healthcare, thus net saving money in blue. Including those folks, we’re benefiting over 69% of Americans.

Household

pre-tax income

Current tax system Trump’s tax plan Flat 30% tax with $12k basic income Flat 40% tax with $15k basic income Logtax 20% Logtax 25% with $12k basic income Logtax 35% with $15k basic income, single-payer healthcare
$1,080 $108 $130 -$11,676 -$14,568 -$856 -$12,121 -$15,173
$12,317 $1,384 $1,478 -$8,305 -$10,073 -$1,254 -$11,413 -$14,186
$22,162 $2,861 $2,659 -$5,351 -$6,135 $450 -$9,224 -$11,213
$32,058 $4,345 $3,847 -$2,383 -$2,177 $2,887 -$6,256 -$7,258
$51,986 $8,768 $6,238 $3,596 $5,794 $9,041 $1,115 $2,383
$77,023 $15,027 $9,506 $11,107 $15,809 $18,206 $11,995 $16,350
$81,966 $16,263 $10,742 $12,590 $17,786 $20,148 $14,292 $17,786
$97,161 $20,242 $14,540 $17,148 $23,864 $26,334 $21,594 $28,516
$101,921 $21,575 $15,730 $18,576 $27,875 $30,571 $23,947 $31,482
$151,940 $35,580 $28,235 $33,582 $45,776 $50,655 $50,144 $64,180
$781,538 $265,625 $230,158 $222,461 $297,615 $406,076 $458,140 $551,031
$2,036,666 $762,656 $644,350 $599,000 $799,666 $1,228,795 $1,384,475 $1,618,703
$9,935,858 $3,890,736 $3,251,083 $2,968,757 $3,959,343 $7,065,274 $7,819,932 $8,790,124
Change in federal spending $0 $0 -$630 billion -$630 billion $0 -$630 billion $0
Estimated federal surplus -$682 billion -$1,155 billion -$822 billion -$180 billion $110 billion $63 billion -$168 billion

Why the Republican candidates like flat income tax—and we really, really don’t

JDN 2456160 EDT 13:55.

The Republican Party is scrambling to find viable Presidential candidates for next year’s election. The Democrats only have two major contenders: Hillary Clinton looks like the front-runner (and will obviously have the most funding), but Bernie Sanders is doing surprisingly well, and is particularly refreshing because he is running purely on his principles and ideas. He has no significant connections, no family dynasty (unlike Jeb Bush and, again, Hillary Clinton) and not a huge amount of wealth (Bernie’s net wealth is about $500,000, making him comfortably upper-middle class; compare to Hillary’s $21.5 million and her husband’s $80 million); but he has ideas that resonate with people. Bernie Sanders is what politics is supposed to be. Clinton’s campaign will certainly raise more than his; but he has already raised over $4 million, and if he makes it to about $10 million studies suggest that additional spending above that point is largely negligible. He actually has a decent chance of winning, and if he did it would be a very good sign for the future of America.

But the Republican field is a good deal more contentious, and the 19 candidates currently running have been scrambling to prove that they are the most right-wing in order to impress far-right primary voters. (When the general election comes around, whoever wins will of course pivot back toward the center, changing from, say, outright fascism to something more like reactionism or neo-feudalism. If you were hoping they’d pivot so far back as to actually be sensible center-right capitalists, think again; Hillary Clinton is the only one who will take that role, and they’ll go out of their way to disagree with her in every way they possibly can, much as they’ve done with Obama.) One of the ways that Republicans are hoping to prove their right-wing credentials is by proposing a flat income tax and eliminating the IRS.

Unlike most of their proposals, I can see why many people think this actually sounds like a good idea. It would certainly dramatically reduce bureaucracy, and that’s obviously worthwhile since excess bureaucracy is pure deadweight loss. (A surprising number of economists seem to forget that government does other things besides create excess bureaucracy, but I must admit it does in fact create excess bureaucracy.)

Though if they actually made the flat tax rate 20% or even—I can’t believe this is seriously being proposed—10%, there is no way the federal government would have enough revenue. The only options would be (1) massive increases in national debt (2) total collapse of government services—including their beloved military, mind you, or (3) directly linking the Federal Reserve quantitative easing program to fiscal policy and funding the deficit with printed money. Of these, 3 might not actually be that bad (it would probably trigger some inflation, but actually we could use that right now), but it’s extremely unlikely to happen, particularly under Republicans. In reality, after getting a taste of 2, we’d clearly end up with 1. And then they’d be complaining about the debt and clamor for more spending cuts, more spending cuts, ever more spending cuts, but there would simply be no way to run a functioning government on 10% of GDP in anything like our current system. Maybe you could do it on 20%—maybe—but we currently spend more like 35%, and that’s already a very low amount of spending for a First World country. The UK is more typical at 47%, while Germany is a bit low at 44%; Sweden spends 52% and France spends a whopping 57%. Anyone who suggests we cut government spending from 35% to 20% needs to explain which 3/7 of government services are going to immediately disappear—not to mention which 3/7 of government employees are going to be immediately laid off.

And then they want to add investment deductions; in general investment deductions are a good thing, as long as you tie them to actual investments in genuinely useful things like factories and computer servers. (Or better yet, schools, research labs, or maglev lines, but private companies almost never invest in that sort of thing, so the deduction wouldn’t apply.) The kernel of truth in the otherwise ridiculous argument that we should never tax capital is that taxing real investment would definitely be harmful in the long run. As I discussed with Miles Kimball (a cognitive economist at Michigan and fellow econ-blogger I hope to work with at some point), we could minimize the distortionary effects of corporate taxes by establishing a strong deduction for real investment, and this would allow us to redistribute some of this enormous wealth inequality without dramatically harming economic growth.

But if you deduct things that aren’t actually investments—like stock speculation and derivatives arbitrage—then you reduce your revenue dramatically and don’t actually incentivize genuinely useful investments. This is the problem with our current system, in which GE can pay no corporate income tax on $108 billion in annual profit—and you know they weren’t using all that for genuinely productive investment activities. But then, if you create a strong enforcement system for ensuring it is real investment, you need bureaucracy—which is exactly what the flat tax was claimed to remove. At the very least, the idea of eliminating the IRS remains ridiculous if you have any significant deductions.

Thus, the benefits of a flat income tax are minimal if not outright illusory; and the costs, oh, the costs are horrible. In order to have remotely reasonable amounts of revenue, you’d need to dramatically raise taxes on the majority of people, while significantly lowering them on the rich. You would create a direct transfer of wealth from the poor to the rich, increasing our already enormous income inequality and driving millions of people into poverty.

Thus, it would be difficult to more clearly demonstrate that you care only about the interests of the top 1% than to propose a flat income tax. I guess Mitt Romney’s 47% rant actually takes the cake on that one though (Yes, all those freeloading… soldiers… and children… and old people?).

Many Republicans are insisting that a flat tax would create a surge of economic growth, but that’s simply not how macroeconomics works. If you steeply raise taxes on the majority of people while cutting them on the rich, you’ll see consumer spending plummet and the entire economy will be driven into recession. Rich people simply don’t spend their money in the same way as the rest of us, and the functioning of the economy depends upon a continuous flow of spending. There is a standard neoclassical economic argument about how reducing spending and increasing saving would lead to increased investment and greater prosperity—but that model basically assumes that we have a fixed amount of stuff we’re either using up or making more stuff with, which is simply not how money works; as James Kroeger cogently explains on his blog “Nontrivial Pursuits”, money is created as it is needed; investment isn’t determined by people saving what they don’t spend. Indeed, increased consumption generally leads to increased investment, because our economy is currently limited by demand, not supply. We could build a lot more stuff, if only people could afford to buy it.

And that’s not even considering the labor incentives; as I already talked about in my previous post on progressive taxation, there are two incentives involved when you increase someone’s hourly wage. On the one hand, they get paid more for each hour, which is a reason to work; that’s the substitution effect. But on the other hand, they have more money in general, which is a reason they don’t need to work; that’s the income effect. Broadly speaking, the substitution effect dominates at low incomes (about $20,000 or less), the income effect dominates at high incomes (about $100,000 or more), and the two effects cancel out at moderate incomes. Since a tax on your income hits you in much the same way as a reduction in your wage, this means that raising taxes on the poor makes them work less, while raising taxes on the rich makes them work more. But if you go from our currently slightly-progressive system to a flat system, you raise taxes on the poor and cut them on the rich, which would mean that the poor would work less, and the rich would also work less! This would reduce economic output even further. If you want to maximize the incentive to work, you want progressive taxes, not flat taxes.

Flat taxes sound appealing because they are so simple; even the basic formula for our current tax rates is complicated, and we combine it with hundreds of pages of deductions and credits—not to mention tens of thousands of pages of case law!—making it a huge morass of bureaucracy that barely anyone really understands and corporate lawyers can easily exploit. I’m all in favor of getting rid of that; but you don’t need a flat tax to do that. You can fit the formula for a progressive tax on a single page—indeed, on a single line: r = 1 – I^-p

That’s it. It’s simple enough to be plugged into any calculator that is capable of exponents, not to mention efficiently implemented in Microsoft Excel (more efficiently than our current system in fact).

Combined with that simple formula, you could list all of the sensible deductions on a couple of additional pages (business investments and educational expenses, mostly—poverty should be addressed by a basic income, not by tax deductions on things like heating and housing, which are actually indirect corporate subsidies), along with a land tax (one line: $3000 per hectare), a basic income (one more line: $8,000 per adult and $4,000 per child), and some additional excise taxes on goods with negative externalities (like alcohol, tobacco, oil, coal, and lead), with a line for each; then you can provide a supplementary manual of maybe 50 pages explaining the detailed rules for applying each of those deductions in unusual cases. The entire tax code should be readable by an ordinary person in a single sitting no longer than a few hours. That means no more than 100 pages and no more than a 7th-grade reading level.

Why do I say this? Isn’t that a ridiculous standard? No, it is a Constitutional imperative. It is a fundamental violation of your liberty to tax you according to rules you cannot reasonably understand—indeed, bordering on Kafkaesque. While this isn’t taxation without representation—we do vote for representatives, after all—it is something very much like it; what good is the ability to change rules if you don’t even understand the rules in the first place? Nor would it be all that difficult: You first deduct these things from your income, then plug the result into this formula.

So yes, I absolutely agree with the basic principle of tax reform. The tax code should be scrapped and recreated from scratch, and the final product should be a primary form of only a few pages combined with a supplementary manual of no more than 100 pages. But you don’t need a flat tax to do that, and indeed for many other reasons a flat tax is a terrible idea, particularly if the suggested rate is 10% or 15%, less than half what we actually spend. The real question is why so many Republican candidates think that this will appeal to their voter base—and why they could actually be right about that.

Part of it is the entirely justified outrage at the complexity of our current tax system, and the appealing simplicity of a flat tax. Part of it is the long history of American hatred of taxes; we were founded upon resisting taxes, and we’ve been resisting taxes ever since. In some ways this is healthy; taxes per se are not a good thing, they are a bad thing, a necessary evil.

But those two things alone cannot explain why anyone would advocate raising taxes on the poorest half of the population while dramatically cutting them on the top 1%. If you are opposed to taxes in general, you’d cut them on everyone; and if you recognize the necessity of taxation, you’d be trying to find ways to minimize the harm while ensuring sufficient tax revenue, which in general means progressive taxation.

To understand why they would be pushing so hard for flat taxes, I think we need to say that many Republicans, particularly those in positions of power, honestly do think that rich people are better than poor people and we should always give more to the rich and less to the poor. (Maybe it’s partly halo effect, in which good begets good and bad begets bad? Or maybe just world theory, the ingrained belief that the world is as it ought to be?)

Romney’s 47% rant wasn’t an exception; it was what he honestly believes, what he says when he doesn’t know he’s on camera. He thinks that he earned every penny of his $250 million net wealth; yes, even the part he got from marrying his wife and the part he got from abusing tax laws, arbitraging assets and liquidating companies. He thinks that people who live on $4,000 or even $400 a year are simply lazy freeloaders, who could easily work harder, perhaps do some arbitrage and liquidation of their own (check out these alleged “rags to riches” stories including the line “tried his hand at mortgage brokering”), but choose not to, and as a result deserve what they get. (It’s important to realize just how bizarre this moral attitude truly is; even if I thought you were the laziest person on Earth, I wouldn’t let you starve to death.) He thinks that the social welfare programs which have reduced poverty but never managed to eliminate it are too generous—if he even thinks they should exist at all. And in thinking these things, he is not some bizarre aberration; he is representing an entire class of people, nearly all of whom vote Republican.

The good news is, these people are still in the minority. They hold significant sway over the Republican primary, but will not have nearly as much impact in the general election. And right now, the Republican candidates are so numerous and so awful that I have trouble seeing how the Democrats could possibly lose. (But please, don’t take that as a challenge, you guys.)

The Asymmetry that Rules the World

JDN 2456921 PDT 13:30.

One single asymmetry underlies millions of problems and challenges the world has always faced. No, it’s not Christianity versus Islam (or atheism). No, it’s not the enormous disparities in wealth between the rich and the poor, though you’re getting warmer.

It is the asymmetry of information—the fundamental fact that what you know and what I know are not the same. If this seems so obvious as to be unworthy of comment, maybe you should tell that to the generations of economists who have assumed perfect information in all of their models.

It’s not clear that information asymmetry could ever go away—even in the utopian post-scarcity economy of the Culture, one of the few sacred rules is the sanctity of individual thought. The closest to an information-symmetric world I can think of is the Borg, and with that in mind we may ask whether we want such a thing after all. It could even be argued that total information symmetry is logically impossible, because once you make two individuals know and believe exactly the same things, you don’t have two individuals anymore, you just have one. (And then where do we draw the line? It’s that damn Ship of Theseus again—except of course the problem was never the ship, but defining the boundaries of Theseus himself.)

Right now you may be thinking: So what? Why is asymmetric information so important? Well, as I mentioned in an earlier post, the Myerson-Satterthwaithe Theorem proves—mathematically proves, as certain as 2+2=4—that in the presence of asymmetric information, there is no market mechanism that guarantees Pareto-efficiency.

You can’t square that circle; because information is asymmetric, there’s just no way to make a free market that insures Pareto efficiency. This result is so strong that it actually makes you begin to wonder if we should just give up on economics entirely! If there’s no way we can possibly make a market that works, why bother at all?

But this is not the appropriate response. First of all, Pareto-efficiency is overrated; there are plenty of bad systems that are Pareto-efficient, and even some good systems that aren’t quite Pareto-efficient.

More importantly, even if there is no perfect market system, there clearly are better and worse market systems. Life is better here in the US than it is in Venezuela. Life in Sweden is arguably a bit better still (though not in every dimension). Life in Zambia and North Korea is absolutely horrific. Clearly there are better and worse ways to run a society, and the market system is a big part of that. The quality—and sometimes quantity—of life of billions of people can be made better or worse by the decisions we make in managing our economic system. Asymmetric information cannot be conquered, but it can be tamed.

This is actually a major subject for cognitive economics: How can we devise systems of regulation that minimize the damage done by asymmetric information? Akerlof’s Nobel was for his work on this subject, especially his famous paper “The Market for Lemons” in which he showed how product quality regulations could increase efficiency using the example of lemon cars. What he showed was, in short, that libertarian deregulation is stupid; removing regulations on product safety and quality doesn’t increase efficiency, it reduces it. (This is of course only true if the regulations are good ones; but despite protests from the supplement industry I really don’t see how “this bottle of pills must contain what it claims to contain” is an illegitimate regulation.)

Unfortunately, the way we currently write regulations leaves much to be desired: Basically, lobbyists pay hundreds of staffers to make hundreds of pages that no human being can be expected to read, and then hands them to Congress with a wink and a reminder of last year’s campaign contributions, who passes them without question. (Can you believe the US is one of the least corrupt governments in the world? Yup, that’s how bad it is out there.) As a result, we have a huge morass of regulations that nobody really understands, and there is a whole “industry” of people whose job it is to decode those regulations and use them to the advantage of whoever is paying them—lawyers. The amount of deadweight loss introduced into our economy is almost incalculable; if I had to guess, I’d have to put it somewhere in the trillions of dollars per year. At the very least, I can tell you that the $200 billion per year spent by corporations on litigation is all deadweight loss due to bad regulation. That is an industry that should not exist—I cannot stress this enough. We’ve become so accustomed to the idea that regulations are this complicated that people have to be paid six-figure salaries to understand them that we never stopped to think whether this made any sense. The US Constitution was originally printed on 6 pages.

The tax code should contain one formula for setting tax brackets with one or two parameters to adjust to circumstances, and then a list of maybe two dozen goods with special excise taxes for their externalities (like gasoline and tobacco). In reality it is over 70,000 pages.

Laws should be written with a clear and general intent, and then any weird cases can be resolved in court—because there will always be cases you couldn’t anticipate. Shakespeare was onto something when he wrote, “First, kill all the lawyers.” (I wouldn’t kill them; I’d fire them and make them find a job doing something genuinely useful, like engineering or management.)

All told, I think you could run an entire country with less than 100 pages of regulations. Furthermore, these should be 100 pages that are taught to every high school student, because after all, we’re supposed to be following them. How are we supposed to follow them if we don’t even know them? There’s a principle called ignorantia non excusatignorance does not excuse—which is frankly Kafkaesque. If you can be arrested for breaking a law you didn’t even know existed, in what sense can we call this a free society? (People make up strawman counterexamples: “Gee, officer, I didn’t know it was illegal to murder people!” But all you need is a standard of reasonable knowledge and due diligence, which courts already use to make decisions.)

So, in that sense, I absolutely favor deregulation. But my reasons are totally different from libertarians: I don’t want regulations to stop constraining businesses, I want regulations to be so simple and clear that no one can get around them. In the system I envision, you wouldn’t be able to sell fraudulent derivatives, because on page 3 it would clearly say that fraud is illegal and punishable in proportion to the amount of money involved.

But until that happens—and let’s face it, it’s gonna be awhile—we’re stuck with these ridiculous regulations, and that introduces a whole new type of asymmetric information. This is the way that regulations can make our economy less efficient; they distort what we can do not just by making it illegal, but by making it so we don’t know what is illegal.

The wealthy and powerful can hire people to explain—or evade—the regulations, while the rest of us are forced to live with them. You’ve felt this in a small way if you’ve ever gotten a parking ticket and didn’t know why. Asymmetric information strikes again.