Taxes crush innovation

The barriers to innovation that companies face are fairly well understood. Apart from the theoretical underpinnings, there’s another more practical reason as well: innovation costs money. A new business’s (or business segment’s) cash curve usually looks something like this:

Step 1: idea. Step 2: ??? Step 3: Profit!

So for an idea to be attractive, it has to generate positive cashflow. In a corporate setting, that positive cash flow has to be foreseeable. New entrepreneurial companies have a bit more leeway to burn investor money in speculative ventures–see also “Venture Capital, business model of.” But not a lot–they still have to produce returns.

Taxes on businesses–cap gains, personal income, etc etc–raise the hurdle rate that companies consider when making new investments. The higher the return that they have to realize, the less likely they are to invest in any but the most surefire business ideas. The less likely they are to invest in speculative ideas, the fewer speculative ideas get funded. This prevents people from attempting to do innovative things, within or outside of companies. The fewer things that get tried, the fewer succeed, and we have fewer new technologies. Raising the necessary rate of return on investments means fewer investments are made.

It’s a simple effect of a normal distribution of innovation success. A smaller sample size means smaller numbers of winners. Increased taxes reduce the incentives for those winners to try, or, in a corporate setting, even get a shot at the title as profitability pressures crush the intrapreneurial spirit.

Critics will say “show me the numbers.” Well, I don’t have time to write a doctoral thesis on this, but you’d want to look at:

1) Tax rates by entity type by year
2) Patents granted by year
3) # companies started per year
4) # IPOs/year

Etc., etc. I’m not even exactly sure how you’d measure innovation, and that’s part of the problem. We don’t even know what we’re missing out on. Friedrich Hayek posited that the fundamental advantage of a liberal (classical liberal, folks) society is that it is the closest thing that we have as an answer to the knowledge problem–the issue that knowledge is dispersed and freedom is the only way to capitalize on each individual’s unique talents and discoveries.  Attempts to optimize life from a central planning perspective assumes that humanity already has the answers, which it doesn’t. And taxation, by its redistributive nature and its uses for non-market ends, is a tool of central planning. QED.

Expect to see less innovation across all areas as taxes go up at the end of this year. Or any year.

You know government is out of control when…

…the taxes for a service cost more than the service itself.

Ridiculous.

Ever wonder whether those arguments about government regulations, taxes, etc., affecting trade actually might be correct? Refer back to price elasticity of demand in your high school econ textbook (for those of you that took econ) and do a quick gut-check to see whether doubling the price of something reduces demand. Then you can go look at tax rates on cigarettes, gasoline, and etc., and then think about whether total marginal tax rates have an effect on the economy.

Quick hint: Yes, tax rates do affect the economy and the effect is a dampening one. I didn’t buy that ticket.

Saverin: Guilty! But not of tax avoidance

Eduardo Saverin, co-founder of Facebook, gave up his US citizenship and moved to Singapore to avoid taxes and regulation like the populistly-punnily-named and onerous FATCA.

In response, our duly-elected and thus duly-outraged representatives proposed an Ex-Patriot act (I do so love puns in named legislation acronyms). This act is a dangerous moral and legal atrocity, not the least because it’s an ex-post-facto law, a bill of attainder, and an economically-destructive legislative abortion predicated on some leftist hacks’ inability to watch other people succeed on merit (or even luck) with any sort of positive outlook whatsoever. Chuck Schumer and Bob Casey need to put down Das Kapital and the Communist Manifesto and get out once in a while so they quit wasting time trying to pass punitive laws.

Anyway. Those are the issues that Saverin is avoiding, but this isn’t about those issues. I applaud him for his role in creating wealth, prosperity, industries, etc., and in short living out a version of the American Dream that we don’t hear about often enough. I applaud him for taking a stand in exercising his liberty and being willing to walk away to do with his life as he pleases.

But here’s the problem: If he feels strong enough about these issues to do something about them, he ought to really do something about them. With the spotlight on him–and you don’t get much more of a spotlight than the IPO halo and US Congressmen introducing legislation with you especially in mind–Mr. Saverin has a tremendous but transitory platform to speak out and be heard about why he’s leaving.

He could talk about the tax climate. He could talk about the business climate, or lack thereof. He could talk about the incentives it creates and how those affect real peoples’ decisions.

He could point out that everyone’s kids have the opportunity to do what he did, and that the government is seeking to ruin that opportunity by destroying the incentives to create. He might add that the government will seek them out to punish them for their choices in making better lives for themselves. He could highlight the fact that the state is making a parody of the legal system, and that the things that made America great are slipping away with each Ex-Patriot act that’s passed, or even countenanced, in the name of public good and fairness.

Eduardo Saverin is not obligated to do or say these things. He wasn’t born in the US and owes nothing to it. Speaking out against the US Congressmen and their follies might be detrimental to his future career or life abroad. But if he wants to put his mouth where his money is, he’s the right man in the right place at the right time to make one more difference.

Education: why? And: some modest proposals.

I enjoy writing about education, and even though I (acknowledgedly) know practically nothing about it from a professional standpoint I still go straight for strong and provocative opinions. I had teachers. Otherwise, I sit around and play video games and… well, have attended a couple really really high-grade universities for solid subjects, but that’s besides the point. So here are a few points on education in America and a few suggestions on what to do with it.

The other day I was reading Democracy in America and learned that townships used to run and fund their own schools. De Tocqueville realized that there’s a good reason for this: that degrees of removal of that responsibility from the town/city creates an agency problem where the community is removed from the school system and therefore has no reason to really support it. For instance, townships used to penalize parents whose kids didn’t attend school because it was detrimental to the commonly-agreed-up (i.e. voted upon) common good and policy. Currently, while school systems are primarily governed at the state level and funded locally, there is a growing level of federal funding and regulation which is removing responsibility and accountability from the community.

So, let’s get to the point here: why do we need education?

The benefits of education, broadly defined, are by common-sense indisputable: whether you learn in the streets of east LA or at Harvard, being better informed about a particular subject render you more able to perform competently in that subject, hence better able to vote/earn a living/recreate/procreate/destroy/break/heal/repair/whatever. The more citizens we have who can competently do a variety of things, the more we’re able to specialize labor and live better lives. More or less.

So education is good. However, we in the United States have made a fetish of public education. Why? There seem to be three general reasons for having a public education system, apart from having a ready-made apparatus for indoctrination of the youth by the state. Taken one-by-one, here are:

1. To train people for the demands of jobs and life. Per the benefits of education above, this seems to be an easily-salable idea for getting people to support public education. Literacy, employability, etc. Except that current schools don’t really train people for jobs beyond the rudiments of reading, writing, and ‘rithmetic. We might be better served with trade high-schools. This is also the economic argument; restated, it says that more general education equals higher GDP over time.

2.To educate responsible, socially aware citizens who can vote. Hahahaha… nice concept, but if anyone is using this to justify public education, then we need to have a real and honest discussion about what responsible voting entails, followed by an in depth examination of the proffered curriculum at the local public high school. Hint: Media, band, and art classes don’t make informed voters. Interestingly, graduation requirements seem to make sense, but certainly don’t fill four years of “education”, suggesting that the additional year-plus of time in secondary is being wasted. We haven’t even tackled the issue of remedial education for wasted primary-school years either. More likely, we’re using it here to indoctrinate and socialize students. That’s scary–society-shaping should come from laws, not from propaganda. Cue theme music.

3. And, it looks like that there’s a strong case for keeping kids in school to keep them out of the workforce. Education is compulsory up to 16. There are stringent requirements on employing youth under 18. These in addition to the facts that we’re structurally not set up to support teen employment and have huge issues when kids are out for the summer means that letting kids out of school any earlier would require a hard pivot to absorb the new, cheaper workforce year-round and still keep unemployment at acceptable levels.

So this leaves 1) and 3). Won’t discuss those here– too much material to cover. Now, proposals to help align incentives for improvement in these areas:

I would submit that 1) would be much better filled by abolishing the silly notion that somehow politicians need to ensure that everyone becomes a raging success. There is a certain minimum standard of social functionality that comes from ensuring mathematical and linguistic literacy, so that’s not a bad reason to publicly fund education–but we need to be very straightforward about the purpose of education before trying to implement it. Otherwise, the general umbrella of “education” leads to all sorts of weird governmental interventions, like in peoples’ diets, the first 18 years of their lives, and so on. Education then becomes a Cause and a make-work policy and social-control tool.

Moving on:

A) Remove all federal controls on education. Dismantle the Department of Education. (Why? the proliferation of regulations on states for one, and the increasing intrusion of bureaucracy into educational programs well beyond what our above-mentioned Purpose would require). Move educational attainment reporting to the census bureau.

B) Fix the employment situation. Education is not only about plunking your butt in a chair for 8 hours per day–it can be about learning by working, too. Ask Warren Buffett about his summers. Remove the minimum wage. States, do your own things: but the Feds should not be eliminating teen employment inadvertently and damaging the career prospects of whole generations of students. Reduce allowable ages for teens to work. Lower payroll taxes and the other costs of hiring to encourage employers to pick up teens for work.

C) States: Taxes should be levied specifically for public schools, with an opt-out that allows parents to not pay if their children don’t attend the public schools. Mandatory school attendance, since we’ve agreed that we need literacy, should go to age 12 or 14 (or equivalent educational attainment), tops. Private schools should be free to compete with public schools on matters of curriculum, cost, and results–meaning less regulation, and the removal of the cost-barrier inherent in paying taxes and paying for private school. I suspect local, quality brands would quickly develop.

This bullet in particular would ensure that the state is not keeping people in school past the point of diminishing returns–if some kids are particularly smart and want to continue on the educational track, then they can. If they want to get out and work, then they can. There is little incentive to prolong a non-productive few years of screwing around.

In fact, I might scale school-tax rates accordingly–start very low for the K-8 years, then increase the tax rate as the student moves up the educational ladder to 12th grade to compensate for the educational value added. Alternatively, tie tax rate to the student’s performance (which is also a great idea for college tuition, by the way, and will be explored in another post) as measured on a normal distribution against the rest of the student body at the school. High performance = low taxes. Low performance = higher taxes. This would again incentivize performance and making good use of time.

Is it regressive? Yes. So is everything else in life. Suck it up, people. Scholarships, private assistance, charity, etc. Take a chill pill.

D) The one useful function of a high-school degree is signalling that you completed high school, which shows a certain amount of learning and social aptitude to employers. So: Allow IQ, personality, and other aptitude tests in employment screening. Conduct these tests at schools and give certified results so that the students have reliable references. Reduce the need for the credential over the achievement.

That’s all my brain has for now. Won’t even touch curriculum, as that’s a different discussion.

These things would improve national performance by aligning incentives with the purpose of education. We would stop wasting peoples’ lives in years of mediocre schooling. We would have higher employment. We would still be offering opportunity to those who were able and willing to take it. We would still have an educated populace and citizenry.