Income Taxes are Inherently Corrupting

There is no way to have an honest income tax. As Henry George wrote, the income tax is a tax on honesty. Cheaters gain while honest people lose because they have to pay a higher tax to make up for the nonpayment by cheaters.

The taxing agency must have the power to intrude into people’s finances to check the taxpayer’s honesty and his competence to report all gains. One should not blame the IRS when it listens to telephone calls, reads email messages, checks social media postings, looks at mail envelopes, and audits records, because it is its job to check for cheating.

It is too costly to check all taxpayers and non-payers, so the tax-man has to be selective. The need to discriminate - to investigate one group rather than another - tempts the authorities to exploit their power to favor their friends and punish their enemies.

A value-added or sales tax is also corruptive. To enforce a high sales tax, the authorities need to check the records, and receipts of the sellers, and they also need to invade the privacy of buyers to make sure they have, for all their goods, receipts that disclose the taxes paid.

Any tax based on transactions, whether obtaining income or selling goods, requires an invasion into the privacy of both buyer and seller, including the income payer and the income earner, because the tax tempts both parties to evade the tax.

When income is taxed, the government recognizes that some income consists of transfers rather than payments for services. Therefore there are also taxes on gifts and inheritances. But some transfers are intended to finance activities of social rather than individual benefit, so to promote such activities, the funds received by charities are not subject to income tax. The exemption from income taxation is another temptation to cheat, and therefore government has to impose disclosures, and that then also inevitably tempts the authorities to exploit their power.

It should be no surprise that sometimes the exploitation by the governmental authorities will be so stark that it becomes a scandal. The targeting of conservative groups by the Internal Revenue Service is just the most recent example. The chiefs then have to deny responsibility and refuse to answer questions. The official who initiated the biased screening has not be identified. The response of the tax agency is always to claim that they have not been given enough funds for better enforcement.

To exert power, the taxing agency has to call on other government agencies to bring an army of intruders into the targeted persons. A woman in Texas who founded two public policy groups and sent in applications for tax-exempt status became a target of the FBI; the Bureau of Alcohol, Tobacco, and Firearms; and the Occupational Safety and Health Administration, as well as the IRS. This serves as an example to others that IRS can invoke the full might of the US government

IRS officials say they need to engage this power to do their jobs, which is true. The top officials cannot know all that the underlings are doing. And it would fight human nature to require agents to avoid acting on their biases. The firing of one or two officials will not stop the practice because the structure of the tax system inflicts unstoppable perverse incentives.

Economics tells us that to change outcomes, we must change the incentives. A tax system that minimizes corruption requires that the tax base be based on implicit reality rather than explicit transactions. Adam Smith in the Wealth of Nations recognized that the implicit reality that is best suited for public revenue is ground rent.

We minimize tax corruption by fully disclosing all tax records. A tax on land rent or land value is based on property prices that are a public record. Today, in the USA, property assessments can be, and often are, available on the web sites of county governments. In a properly-applied land value tax, one can look up any property address and find the assessed value.

Also in a proper land value tax, all land is subject to the tax payment, including land held by nonprofit organizations, including governments. There should be no exceptions. Besides disclosure and universal tax payments, the third element that minimizes bias is the ability to appeal an assessment. If a property owner thinks his property was assessed too high, relative to his neighbors, he can bring the case to an appeal board, and then to a jury.

Land is inherently public. It cannot hide or flee when taxed. One’s wage or business profit or income from savings is inherently private, and should not have to be publicly disclosed. Also the capital goods of your home - the wiring, the plumbing, the paint, the attached appliances, and the quality of the walls, floors, and ceilings, are subject to inspection with a tax on buildings, but irrelevant if only the ground is taxed.

Only a land-value tax has complete privacy for one’s personal finances and complete disclosure of the tax base. We cannot claim that a land value tax is 100 percent free of corruption, because any human institution is imperfect, but utopia is not an option. We can only select the tax base that minimizes evasion, cheating, corruption, and intrusion, and that is land.

The land value tax is based on implicit reality rather than the superficial appearance of transactions. The tax on ground rent or land value is implicit because it is based on the economic rent of land, the highest rent it will fetch, rather than any explicit payment by tenants to landlords. Therefore land value taxation conforms to what economic theory tells us is the best source of public revenue - best for the economy, best for honesty, and best for avoiding tax scandals.

Those who decry the abuse of power by taxing agencies are themselves guilty of helping to cause the problem unless they take their case to its logical conclusion - the replacement of taxes on earned income and produced goods with a tax on land value.

Moral Markets and Immoral “Capitalism”

The question, “Is capitalism moral?” was raised by Steven Pearlstein in a 15 March 2013 article in the Washington Post. He is a professor of public and international affairs at George Mason University and a column writer for the Washington Post.

Pearlstein writes that we in the US are engaged in a “historic debate over free-market capitalism.” Maybe so, but “free-market capitalism” is a contradiction in terms. There are two reasons why the economic system is called “capital”ism rather than “laborism” or “landism.” First is that capital dominates labor. The second reason to call the system “capitalism” is to hide the role of land, so that people focus only on the conflict between workers and capitalists. The chiefs of finance and real estate are able to dominate because of their political clout. They obtain privileges from government in subsidies, limits on competition, and periodic bail outs. In contrast, in a free market, there is no domination, with neither subsidies nor imposed costs.

Pearlstein then says that if “markets” were providing prosperity for most folks, there would be no need for governmental intervention. But we don’t have pure markets. We have a mixed economy, with intervention into markets, so one has to first analyze whether it is markets or else interventions that cause high inequality, instability, poverty, and unemployment. Since pure markets are not given an opportunity to work, how can they be responsible for economic woes?

He then asserts that for the past 30 years, the world has been moving towards a greater role for markets. That is so for China and the countries previously dominated by the USSR, and these economies have indeed experienced greater growth and prosperity.

But, contrary to Pearlstein’s assertion, the US has been moving away from a market economy. Frequent governmental crises - the fiscal cliff, budget deadlines, ever changing tax rates - threaten the stability of financial, industrial, and labor markets. The subsidies to real estate and its financial allies have never been greater. The domination of the Federal Reserve over money, banking, and interest rates has reached historic heights. The tax reforms of the 1980s have been reversed by Congress, which has made income taxes ever more complex. Costly regulations continue to pour out of Washington DC by the thousands each year. And now the government will dominate medical provision like never before.

The decline in the role of markets can be measured by an index of economic freedom. According to the Fraser index of economic freedom (freetheworld.com), U.S. market freedom peaked out in the year 2000 at a rating of 8.5 out of 10, and then declined to 7.69 in 2010 as intervention grew. The US freedom ranking among countries dropped from third place in 2000 to 18th out of 144 in 2010, and most probably has continued sinking since then.

Critics of markets have asserted that stagnant household incomes and financial crises are the fault of a greater role for markets, when in fact, in the US and Europe, massive subsidies to real estate caused the recession, excessive government borrowing has caused the fiscal crises, and a governmental redistribution of wealth from workers to landowners has stagnated net wages.

I agree with Pearlstein that we should welcome the debate on economic morality. But we should use words that have real economic meaning, rather than propaganda terms. Any person who refers to “capitalism” other than with critical quotation marks contributes to the confusion. The critics of markets opportunistically use the term “free market” to refer to the mixed economy, and then use the term “capitalism” also for the concept of a pure free market. Hence they argue that “capitalism,” as the mixed economy, suffers from economic woes, and then jump to the false conclusion that “capitalism,” meaning the pure market, causes the problems.

A real debate should also unmask the role of land that hides under the label “capital”ism. Critics who speak of the “market’s” unequal distributions overlook the massive redistribution of income from workers to landowners, as taxes on wages pay for public goods that pump up rent and land values. Their call for higher taxes on the rich disregards the distinction between earned income from entrepreneurship and unearned income from governmental subsidies.

Pearlstein admits that “many of the arguments have been a bit flabby, with both sides taking refuge in easy moralizing.” That is true. An honest and robust debate should avoid the deceitful switching of meanings for “capitalism”, and indeed avoids using the flabby term altogether. Instead, use the clear and honest words “pure market,” “intervention,” and “mixed economy.” If we say that the mixed economy has economic woes, one cannot then conclude that the pure market has caused them, because the mix also includes intervention. Clear thinking about economic morality cannot begin until we have clear terms that reflect the full-spectrum of economic reality.

Disclosure: a Weak Underbelly of the Interventionist Economy

My friend Marc Joffe, a financial analyst and expert on public sector credit rating, says that there are four fields in which “capitalism” has a “weak underbelly.” These are appraisal, auditing, equity research, and credit ratings.

I have a semantic quibble about the term “capitalism,” as it seems here to be applied as a label for the current economies of the world, but the implication is also that the term applies to a pure market economy. The relevant economic issue is whether these really are four free-market horses of financial trouble if not apocalypse.

As stated by Joffe in his Progress Report article, “The Weak Underbelly of Capitalism” (progress.org/2013/evaluati.htm), these four fields of financial analysis “inform investors about the value and risk” of assets. When people buy property based on incorrect valuations, these can become bad investments and speculations that, if systemic, can either contribute to asset bubbles or else hamper growth. Austrian-school economists call these “malinvestments” and “malspeculations.”

Indeed, there is plenty of evidence that financial-analytic services have been faulty. There were bad analyses of firms such as Enron, the 1990s Internet firms, and the credit ratings of mortgage derivatives during the real estate boom that crashed in 2008.

Joffe says that the analysts can be “bullied or bribed” by the chiefs of their firms or by clients “to distort their findings.” Some analysis can go awry from using biased assumptions that turn out to be incorrect, but misconduct could also be deliberate fraud that enables sellers to steal from misled buyers. A morally proper contract must encompass parties who are truthfully informed.

In a pure free market economy, all transactions are voluntary. Theft, including fraud, are violations of property rights. Fraud is outside the market, and the free market included the protection of property rights, hence the prohibition and punishment of fraud.

What is deficient is therefore not the market, but the law and its enforcement. The failure to prevent such deliberately misleading financial data is a government failure. To say that it is a problem of “capitalism” is confusing, because “capitalism” could refer to today’s mixed economies, markets distorted by intervening restrictions, taxes, and subsidies.

However, as Marc Joffe states, the governmental regulation of financial analysis is inherently deficient. It would be too costly for regulators to oversee every appraisal, audit, valuation, and credit rating. Moreover, a regulatory agency would also be vulnerable to capture by the financial industry, i.e. the members of the agency would come from the financial fields and could be bribed by special favors that are on the edge of legality. It could be difficult to distinguish between an honest mistake and a deliberate failure to correct dishonest data. We have witnessed Ponzi schemes such as the Madoff scandal that the SEC (Securities and Exchange Commission) failed to prevent or stop.

Joffe offers a solution in greater disclosure. When information is made public, more people can review the data and catch errors. Peer review can also promote the best methods of analysis, such as with open-source projects. Joffe’s solution is therefore a four-horse open carriage, making the analyses of appraisal, auditing, equity research, and credit ratings available to the public. To help achieve that goal for ratings, Joffe has developed an “open source government bond rating model.”

The economic question is then whether the governmental requirement of disclosure for financial analysis used in transactions is an intervention into the market, or else whether such disclosure is market-enhancing and therefore not an intervention but actually part of the market as a protection of property rights. In ethical terms, is there coercive harm to others when there is no disclosure?

As stated by Joffe, financial firms enhance their profits “by keeping information to themselves.” Therefore a mandatory full-monty disclosure reduces their economic profit, i.e. profit beyond normal returns to labor and asset values. Firms can charge more for evaluations and ratings when the information is not available to others.

On a pure cost-benefit basis, disclosure would surely have a much greater economic benefit than the cost of lost profits. But free-market policy analysis must be based on the ethic of the market, not merely on cost-benefit, since a pure utilitarian view would trample on enslaved minorities if there were greater total benefits to the majority.

The free-market answer is meta-disclosure at the highest level of choice. A meta-disclosure is disclosure about disclosure. For example, rather than either allowing or forbidding insider trading, a firm would be required to disclose in its corporate charter the extent to which its officers may engage in insider trading. Then the shareholders would make their decisions accordingly.

What government should do is require meta-disclosure for all financial firms. A firm doing appraisals, audits, or ratings would be required to state in its charter whether it makes its findings public. If the accounting firm says that its audit methods and results are not public, then if a corporation board chooses to be audited by that firm, the shareholders and lenders would be warned to be skeptical about an audit that claims that the company accounts are proper. If an appraisal firm says its findings are not public, then a buyer would be wise to doubt the truthfulness of the valuation. Market participants would discount non-disclosed products.

Meta-disclosure is not an intervention, because it enables property rights to be clearer and better protected. A pure market is not a case of “anything goes.” Contracts among ill-informed parties are not morally proper. Therefore Joffe is basically correct in advocating disclosure, but in my judgment a meta-disclosure requirement is sufficient. The weakness is therefore not of the market as such but of the failure by government to have a basic “law of the market” requiring meta-disclosures not just by firms but also for products.

Attacks on Financial Transactions

The European Union has proposed a tax on financial transactions for eleven members that use the euro, including Germany, France, Italy, and Spain. The EU would impose a tax of one-tenth percent on the trading of shares of stock, bonds, and other financial assets, both on the buyer and on the seller. There would also be a tax of one-hundredth of one percent on the trades of derivatives such as options.

The proposed tax would raise about 50 billion euros per year to reduce the European government deficits, and it is claimed that the tax would reduce “irresponsible” financial speculation. On January 23, 2013, the EU’s finance ministers endorsed the financial transaction tax (FTT).

While superficially it may seem that the mere trading of stocks and bonds would not be productive, in fact there is an economic benefit to financial transactions, as they move funds to those areas that the market actors believe are most productive. The financial movement of funds then impacts the real economy, which needs the financial sector for investment. Any economist will tell you that it is best to minimize transactions costs.

Indeed the European Commission has estimated that the FTT would reduce the GDP of the eleven economies by .28 percent. But one also has to consider how the revenues are spent. If the funds are invested in these economies, such as for education or infrastructure, the combined GDPs would increase by .2 percent, for a net loss of only .08 percent. But then the tax revenue would not reduce the countries’ deficits.

A tax on transactions shifts them to less-taxed places. Even though the tax rate seems small, some financial actors make many trades, seeking small discrepancies in prices. They would move their business away. But the proposed tax would cast a wide net, fishing for taxpayers outside the territory of the taxing countries. The proposal uses the “issuance principle,” in which a trade of an asset originating in the home territory can be taxed even if the parties are outside the territory. For example, if an American buys a stock in a French company, and the seller is in Japan, the transaction would be taxed, on top of taxes imposed by the traders’ countries.

Some European countries already tax financial transactions. France taxes the purchase of shares in large companies at a rate of .2 percent. After the implementation of the tax in August 2012, trading in these shares were reduced relative to non-taxed shares.

Another effect of taxing transactions is avoidance. Financial guys are clever, and they will find ways to circumvent a tax by creating new types of securities and derivatives.

High-frequency trading did not cause the Crash of 2008. An error in the software could cause a temporary fluctuation in pricing, but the normal operation of computerized trading is to thicken the market, to add many more transactions that add liquidity, making it possible for financial actors to quickly buy and sell at the current market prices. Frequent trading involves arbitrage, equalizing the prices of assets in various locations, and that is beneficial. Of course the financial markets can be manipulated, facilitated by high-speed trading, but a tax on transactions will not stop speculation, manipulation, and the fabrication and multiplication of derivatives.

As to government revenue, the root reason for the chronic deficits is that the current tax systems punish production and consumption. Europe has a value-added tax (VAT), a tax on the value added by each stage of production. Is it good or bad to add value? Of course it is good, which is why any produced value should not be taxed. The VAT destroys the essence of the economy, value added. Taxes on income and goods are also destructive.

While Europe punishes production and consumption, it subsidizes its landed aristocracy. Today’s European aristocracy may not have fancy titles and serfs tied to the land, but the economic impact is the same as in the old days of royalty. Today’s landed aristocracy consists of persons having title to land, who do not pay back to the state the rent and land value created by the state’s public goods and welfare spending. People don’t see this implicit reality, because they no longer see the appearance of the old titles of Baron, Lord, Earl, Duke, Prince, and Grand Poobah.

The subsidy of the land barons implies that public revenues have to come from productive activities, including financial transactions. But high taxes on production have the effect of depressing the economy, and meets political resistance, so governments borrow to finance the welfare state. Government welfare ends up pushing up land rent, and so tenants get taxed by paying more for real estate, for which they superficially blame landlords and the market.

The concept of taxing financial trading is old. A tax on currency conversions was popularized by the economist James Tobin, and is sometimes called the Tobin Tax. The term was then applied to taxing financial transactions in general.

London is a major global location for finance, and the economy of the U.K. depends on the finance industry. The FTT would damage the economy of the UK. The tax would impose costs on brokerage firms and banks outside the taxing countries. Its implementation would be costly and add one more bureaucracy to a European Union already suffering from euro-sclerosis.

Europe is slowly committing economic and cultural suicide on many fronts: economic, demographic, and environmental. We may still be able to visit its interesting ruins, but economic dynamics are shifting to Asia. Financial activity will keep shifting to Hong Kong and Shanghai as Europe and also America keep tax-punishing production and transactions.

US Bans Americans from Predictions Market

On November 2012, the predictions market Intrade announced that U.S. persons would no longer be able to hold accounts and engage in its predictions trades. The U.S. federal government has jurisdiction over financial markets within its territory, but Intrade is located in Ireland. However, the U.S. government also has jurisdiction over U.S. persons world-wide.

Intrade provides betting contracts for future events such as elections, the weather, the Academy Awards, and financial market averages. For example, there was a predictions contract for the U.S. presidential election of 2012. One could, for example, on the Intrade web site, buy a contract for Obama to win. If the current price was $60, one would pay $60 for the contract, and then if Obama won, one would get back $100, for a gain of $40. If Obama lost, the contract holder would lose the $60.

The price of the contract was based on the bids and offers of the participants. If more speculators believed that Obama would win, they would bid to buy the win contracts, which would push the price up. If more later believed that Obama would lose, they would sell the contracts, since they would collect $60 if they were right, and push the price down.

Economists who have studied such predictions market have concluded that these markets make more accurate predictions than do polls. That is because the speculators have seen the polls, and they go beyond the polls to analyze the campaigns or financial markets to estimate the future outcomes. The bettors are placing their own money, so they have a keen interest in getting the bet right. In fact, the Intrade market for the U.S. presidential election of 2012 correctly predicted the win by Obama, whereas the polls were evenly split.

In 2012 Intrade yielded to pressure from the U.S. government, and told its American customers that their accounts would be closed in December. The Commodities Futures Trading Commission charged Intrade with violating its ban on off-exchange commodity options trading. The CFTC’s complaint also accuses Intrade of making false statements about their options trading website. Americans are allowed to trade only on CFTC-registered exchanges. The CFTC considers it a commodity option market if the traders can bet on whether, for example, the price of gold will be $2000 per ounce or greater, on December 31, 2013.

The CFTC claims that its “requirement for on-exchange trading is important for a number of reasons, including that it enables the CFTC to police market activity and protect market integrity.” But to my knowledge, none of the participants of Intrade were victims of fraud. There was no evident lack of market integrity.

In a completely free society, with a pure free market and true free trade, there is no restriction or tax on peaceful and honest human action. Nobody is harmed when a person voluntarily buys a contract on whether some future event will occur. Government agencies such as the CFTC, which are supposed to protect market participants, instead end up preventing them from engaging in what to them seems the most profitable and interesting opportunities, which also provide social benefits. Predictions markets benefit society by reducing the uncertainty of the future. These markets provide a measurement of the expectations of people who are betting their own money. Predictions markets facilitate better forecasts by rewarding those whose insight is right and penalizing those whose analysis was faulty.

The U.S. government also restricts gambling on the Internet, even when the web sites are in foreign countries. U.S. government officials criticize foreign countries for restricting the freedom of expression and reading, but it too imposes restrictions and prohibitions.

Intrade will continue to have contracts held by non-Americans, and there are other predictions markets besides Intrade. But every year brings ever more restrictions, mandates, and taxes on peaceful and honest human action. Each additional intervention reduces the equity and efficiency of the economy. Each extra imposition is like another rock on a ship, so we should not be surprised at the current slow progress of the economic ship, the continuing high unemployment and sluggish growth. Keep adding more rocks, and eventually the ship will sink.

One of my favorite quotes is from the German philosopher Hegel: “What experience and history teach is this - that nations and governments have never learned anything from history, nor acted upon any lessons they might have drawn from it." We seem to have learned nothing from the decline of civilizations such as that of the ancient Mayans, Egyptians, and the Roman Empire.

Economic Rationality

The concept of rational action is a frontier of economic theory. The new field of behavioral economics combines economics and psychology to analyze actions that seem to be irrational. For example, people value health and long life, yet they smoke and eat unhealthy food. A related field, behavioral finance, examines psychological and emotional traits that prevent people from making wise investments. Perverse psychological biases include anchoring to past prices and facts, the bias of weighing recent events too highly relative to the more distant past, being overly confident in one’s abilities, and following the herd to a cliff.

Neoclassical economics often assumes that people are purely self-interested and always seek financial gain, and that therefore altruism is irrational, whereas as Adam Smith and Henry George wrote, human beings have two motivations: self interest and sympathy for others. Since people get satisfaction from serving others, it is incorrect to label altruism or actions based on subjective views of justice as “irrational.”

The Austrian school of economic thought has a different perspective on rationality. The Austrian economist Ludwig von Mises envisioned human action as inherently rational. A person has unlimited desires and scarce resources. Human beings economize, seeking maximum benefits for a given cost, or minimizing costs for a given benefit. At any moment in time, a person ranks his goals, ranging from most to least important. He chooses the resources to achieve the most important goal at some moment, then the second most, and so on, until his gains from trade have become exhausted. This is the inherent rationality of human action.

The process of satisfying one’s ends involves exchange, trades with others as well as trade-offs among one’s own resources. For example, if you goal is to eat delicious food, you trade the money you value less highly for food you value more highly. Economizing man seeks to maximize the utility, i.e. the importance and satisfaction gained, from one’s resources.

Note that economic rationality involves means rather than ends or goals. If a person chooses to drink so much vodka that he gets drunk and then gets sick, there was a reason for doing so, and at that time, he believed that this would maximize his utility. Utility theory does not pass judgment on people’s goals. Utility theory analyzes the means to an end, whatever that end may be.

The man who gets drunk may later regret his action, but rationality has to be based on human action at the moment it occurs. At that moment, his knowledge, emotions, and desires lead him to make a particular choice. At a later moment, he may have different knowledge, emotions, and desires - too bad, because we can’t go back in time. The action was utility maximizing at that time, even if it turns out to be bad in the future.

Rationality in economics is different from rationality in psychology. A psychologist may judge getting drunk as an irrational desire, but an Austrian-school economist recognizes that values are purely subjective, and he takes any particular desire as just data, and economic rationality does not apply to data.

Economic rationality has three criteria:

1. A rational person has a sound functioning mind. He generally observes and understands reality. We all have incomplete knowledge, and many people hold false beliefs, and rational people may have differing interpretations of observations. But people substantially out of touch with reality, such as due to drugs or dementia, are beyond the domain of economic analysis.

2. Rational people economize. Economic theory is based on maximizing benefits and minimizing costs. Economics does not claim that all people necessarily economize, but if they do not do so, they are not rational, and we send them to the Department of Psychology to analyze, since economic theory can only analyze rational action.

3. The preferences of rational persons are consistent. For example, if one prefers an apple to a banana, and a banana to a cantaloupe slice, consistent preference implies that one prefer an apple to a cantaloupe slice. If not, then that person is irrational, and economists send him to abnormal psychology for analysis, since economic theory does not apply to inconsistent preferences.

Given that meaning of economic rationality, what about the perverse psychological biases? Overconfidence is consistent with rationality, since the person is not directly observing what is not there, but interpreting and misjudging his ability as more potent that it turns out to be. A rational person may believe that a black cat brings bad luck, without any evidence, but the rational person does not see himself surrounded by black cats which don’t exist. We call religious belief a “faith” because it is not based on verified evidence, but religious people are nevertheless rational. Merely believing in what is not observed does not imply irrationality.

Behavioral economists sometimes use the term “quasi-rationality” for action that is objectively sub-optimal, but to an economizing man, the future is always uncertain, knowledge is always incomplete, and beliefs cannot all be based on personal evidence, so action is quasi-rational only with hindsight, and not at the moment of choice.

Likewise, with recency bias and anchoring, people weigh some facts and events too much, but again, this is a matter of interpretation rather than direct observation. Suppose somebody buys a financial asset for $50 and the price later falls to $40, and he does not want to sell, because he does not want to experience a loss. In fact, he has already lost $10 per share, and the optimal financial decision has to ignore what he paid, and focus only on expected future risks and yields, but the person anchored to a past price is also weighing in the emotional trauma of acknowledging a loss, so he is still rationally maximizing utility even when keeping a share of stock that is going ever lower.

Likewise the smoker is rational in, at the moment of choice, choosing the immediate pleasure (or avoiding the pain of withdrawing from smoking), over the long-run desire for good health. There are tradeoffs between short-term pleasure and long-term goals, and choosing the short-term pleasure is not irrational, because one’s subjective value at that time is for the pleasure.

Economic psychology has also analyzed the mental process of choice, concluding that much of what we think of as reasoned choice is really induced by subconscious feelings. Much of what we do is based on habit. But even with complete determinism, it is still the case that, at every moment in time, a person thinks and feels that he is weighing costs and benefits to optimize utility, and that state of mind constitutes free will and rational action.

Therefore the claim of behavioral economics and behavioral finance that people do not act rationally is based on a psychological rather than economic meaning of rationality. So long as people can generally observe and believe reality, and they economize to achieve ends, and their preferences are consistent, they are rational, even if they do what they later realize was foolish.

We can well call destructive government policy irrational, but that is a different meaning of rationality than what applies to a choice made by an individual person. The paradox of humanity is that our actions are based on reason, and that human action is rational, yet collectively human beings engage in war, environmental destruction, and economic waste that is inconsistent with the desire of most to live peaceful, prosperous, happy lives.

The Disunited Parties of America

Whereas Americans suffered the trauma of moving towards the Fiscal Cliff of 2012, and whereas the divided Congress resolved it only partly and for the short run, and whereas the Republicans and Democrats have vastly differing ideologies and policies for the USA, and since challenger parties have even more radically differing views, one impossible remedy would be to split up the government into the party lines.

If you don’t like political fantasy, then stop reading. Otherwise, here is how the fantasy would work. Americans would choose to belong to one of several political parties, or they could choose, by default, the Nonpartisan Party, which would continue current laws and policies. (We cannot call the Nonpartisan Party the “Independent Party,” because there is already an American Independent Party which is a political party.)

Each party would have its own president and congress, and its own regulations, taxes, spending, and currency. The country would still have a single military, Supreme Court and a federal Constitution amended so that each party would have autonomous control over its own members, recipients of transfer payments, and territory. The joint Congress elected by all the people would still function to authorize spending for foreign affairs and the military.

Consider first the Republican Party. The Republican Congress would enact its own tax structure. The federal debt and unfunded liabilities (promised transfer payments for Social Security and Medicare) would be divided among the party governments by population, so that each party government would be obligated to pay its share of current and promised transfer payments. If it has one third of the population, the Republican government would have responsibility for one third of the national debt.

The territory of the Republican government would consist of the private land owned by its members, plus a population-based proportional share, both assets and liabilities, of federal property. The Republican government would inherit the current laws, but could then change them. They could reduce their income tax rates, but any added debt would be handled with Republican Government bonds. They could cut domestic spending for their members, and they could change Social Security, Medicare, and Medicaid for their new members and the future incomes of their members.

The same authority would apply to the Democratic, Libertarian, Green, one or more socialist parties, a social-conservative party, and others. A new party would be authorized if it had ten thousand members. There could thus be a Geoist party that enacted a Georgist single tax on land values (including a tax on dumping pollution into the people’s land). They would attract millions of members, because only the Geoist party would leave workers and enterprises tax-free. (The Libertarian Congress would most likely keep and enact national sales and excise taxes, as was advocated by their previous presidential candidates.)

As a member of the Geoist Party, I would propose that, in order to get landowners to enrol, landowners with net tax losses would be compensated with geo-bonds. Geo-bonds would be backed by a strong asset: they would have the first claim on the future rents of Geoist land.

The Disunited Parties of America would offer Americans a choice of governance. The division would not be pleasant, but it would at least enable each party congress to deal with fiscal issues without the delays and special-interest concerns that are blocking long-term solutions.

Probably the Libertarian Congress would establish its own currency to replace today’s federal reserve notes. They would implement free-market banking. I imagine the Libertarian Congress would mint half-ounce gold coins with a denomination of $1000, engraved with the picture of the Austrian-school economist Ludwig von Mises. The banks in Libertarian land would issue their own currency convertible into Mises gold dollars. Mises bank notes and accounts would be adopted by people in the other party lands, as it would be sound money not vulnerable to inflation. The Republican and Democratic congresses would surely choose to remain with the federal reserve system.

How well the Geoist party economy prospers depends also on its monetary policy. There would be a big battle within the party on whether the Geoist Congress would directly issue fiat currency, or whether to have a free market in money and banking. If the fiat-money faction won, the outcome would be uncertain, as the debt service of geo-bonds could be high because of uncertainty about any future monetary and price inflation. I would vote for financial free trade, but would probably be outnumbered by the fiat money advocates. I imagine most business and households in geo-land would use the libertarian gold-backed money, and they would prefer to hold libertarian bonds that are denominated in gold-backed money that would be free of any inflation, tax, and uncertainty premium.

The Disunited Parties of America would resolve the tax debates. The Democrats would have high taxes on the wealthy, but all the wealthy persons would join the Geoist and Libertarian parties. The Republicans would have low income taxes and low welfare payments, but enterprises and wealthy people would also abandon the Republicans for the Libertarians and Geoists, and socially liberal people would abandon the party due to its strict social-conservative controls on speech, reproduction and drugs. The socialist parties would have high welfare spending for the poor, but no money to pay for it. The Libertarian Party would have some rich landowners and oil companies, but their 40-percent national sales tax would leave it with few residents in the middle and lower income classes.

The Geoist Party would end up with most of the people and land, but it would pay a high debt service for geo-bonds if buyers feared future fiat monetary inflation. With the Democrats and Socialists bankrupt, middle and lower-income folks would join the Geoist Party, since both their income and spending would be tax-free, and there would be full employment at higher wages than in the other party lands.

None of this will happen, but it shows that one source of the problem is an economic policy that is forced on everybody, in contrast to a pure market economy in which each person, family, and local community can choose its own borrowing and spending. The beauty of the market is that it caters to our individual differences, replacing military and political conflict with a diverse market that satisfied our individual desires.