I am considering leaving my current home in the Saint Louis area to move to the Pacific Northwest. My wife and I both love the climate in Oregon and Washington and we are both nature lovers. Oregon is somewhat more temperate than Washington and for that reason it would be a better choice to us. But Oregon, besides having a dumb law preventing people from filling their own gas tanks, has a high income tax. Washington does not have an income tax. So it would make sense for us to prefer Washington, most likely southern Washington near the border with Oregon.
This will probably strike most of you as sensible. But think about it–I am considering changing where I may spend the rest of my life, where I will raise my kids, not based on job considerations, or the location of family, or the location of our ‘dream house’, but based largely on taxes! This is absurd that taxes have such a large impact. Just think of all the other decisions in peoples’ lives that taxes distort.
I am the proud owner of a small apartment building. Why did I buy it? Because it was economic for me to do so. But apartments in Saint Louis are priced in such a way that if it were not for the tax code it would not make sense for me to waste my time fixing toilets. I would be much better off investing in stocks or in P2P loans on Prosper.com. But the tax code offers a loophole whereby a small property owner like myself can cut a couple thousand dollars off of his tax bill each year by owning property (this is largely due to the depreciation deduction). Also, any sizeable capital gain when I sell can be indefinitely deferred with a 1031 exchange. So I manage a property even though my talents are better suited to analyze stocks or invest in loans. Solely because of the tax consequences.
Speaking of 1031 exchanges–they cost money, usually a couple thousand dollars. If capital gains were never taxed then these would not exist and those who spend time on them would do something productive. The same is true for IRAs and 401(k)s and HSAs and 529 plans. All these tax deferral schemes have significant administrative costs. Eliminate the taxes on investment income and the economy as a whole would have a lot more money to invest elsewhere. Imagine the cost savings to investors who could invest in any mutual fund rather than the typically high-fee fund found in 401(k) plans. Imagine all the time that would not be spent setting up these accounts and what people could do with that time (for example, I spent over 12 hours trying to find the best HSA plan–I like either hsabank.com or shawneehsa.com).
Even more importantly, think of the savings in time and energy to investors in the stock market of not having to worry about whether gains are short- or long-term capital gains. Think of the savings in costs to brokerages and banks of not having to send out 1099 forms.
Let me leave you with one piece of information: the Tax Foundation estimates that in 2007 the cost of tax code compliance in the US will be $300 BILLION. That is a high cost, and it doesn\’t even include the cost of uneconomic decisions made by taxpayers like myself simply to lessen their taxes.
There are many other areas where taxes distort incentives. I will return to this topic in future posts.
There is no reason why insider trading should be illegal. It should be prohibited, but outside of government regulation it would be adequately restricted. All securities firms (such as brokerages and investment banks) have policies forbidding their employees from insider trading. All large public companies also have such policies.
One could argue that the reason those policies exist is because of the government regulation, and that would be correct. But the regulation is no longer necessary (if ever it was necessary) to prevent insider trading. Who is harmed in insider trading? Anonymous traders who sell to those with insider knowledge, certainly. Also, the companies involved, such as investment banks, suffer a loss of reputation when their employees trade on insider information. That loss of reputation is a definite, if neither concrete nor easily quantifiable, tort. It is a theft. Therefore, firms that discover employees who trade on insider information would fire those employees and then sue them for damages–a reasonable amount would be treble the unjust profits of the insider traders.
What about the firms themselves? What if they made a decision to trade on insider information? A small consultant on a large acquisition could easily justify the cost of reputation in light of potentially huge profits. But the trading on inside information also harms anonymous traders in the stock and stock options of the traded companies. So it would be in the best interests of the stock exchanges to prevent insider trading. If they did not do that, their reputation would suffer and traders would use an exchange that banned insider trading. The exchanges (such as NYSE and NASDAQ) would thus formally prohibit insider trading and would be liable if to the outside traders if it happened.
Overall, the market would regulate itself, insider trading would remain infrequent, and those employees of the SEC could go find productive jobs. The world would be a better place.
If you want to see stupid government regulation, just look at how alcohol is regulated. I have a good knowledge of alcohol regulation because my wife and I are amateur winemakers. And at least the government does not interfere with us with that. But what if we became very good at making wine and wanted to sell a little of it, part time. Winemaking itself is not very capital intensive. With $400 in equipment you can easily enough make hundreds of bottles of wine. Grapes (or other fruits, for fruit wine) are not that expensive.
But what is expensive is regulation. To sell any wine in the USA the federal government has to approve its label. What if you make a lot of different wines or limited edition wines? Well then you will have to wait to sell them or sell them with a previously approved generic label. So rather than saying a wine is a Chardonnay-Semillon mix, the label could only say ‘White Wine’.
Also, a number of state and federal permits are required to make wine. There are the normal local permits for any food/drink establishment, but then there are special alcohol permits as well. Then there is the alcohol permit to be able to serve alcohol on the premises. Then, if you want to ship out of state, you have to know which states you can ship to. Also, depending on where you are located you may be required to not sell on certain days or before certain times or to not sell above a certain number of bottles to any one person.
What if you want to sell through grocery and liquor stores to grow sales? In almost all states, you are required to sell through a licensed distributor. And there are only a few distributors in each state, all with lots of political influence, the prices they charge are high. So even if your winery became big enough so that it could save money by cutting out the middle man, it is forbidden to do so. Luckily, Wal-Mart and Costco are fighting these laws in a number of states.
What if you want to show people how to make their own wine? They would do the work but you would oversee it and deal with all the unpleasant cleaning and maintaining of the equipment. Sound interesting? It is illegal, even if those who make the wine only consume it themselves. Why? They are not licensed.
Is it not wonderful how the government protects us?
Why are we there? Bush said it was because of WMDs. He lied. He said it was about Al Qaeda. He lied. We are now over in Iraq spending billions, getting our troops and Iraqis killed, and not doing much good at restoring order. All the while, Al Qaeda can call us imperialists and occupiers and increase their ranks. Withdrawing from Iraq is a no brainer.
Taxes distort incentives
June 10th, 2007 by 
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