Friday, July 18, 2008

The Freedom Game

The plan I have detailed over the last few days may not sound revolutionary, but there is a method to my madness. If we are going to have a free market, we must trust that the government isn’t going to change the rules to benefit others over ourselves. In review, the three points are: Ban Earmarks, Enact a Flat Tax, Transfer the Corporate Tax to the Income Tax.

In economics, there is a branch of research called Game Theory. The classic example of this is the Prisoner’s Dilemma.

Looking at the table above, we have two prisoners who committed a felony, let us say armed robbery, but neither has been convicted yet, merely arrested. Both prisoners are put into separate interrogation rooms. If they both stayed silent, they could both serve 6 months in jail because the evidence is not a slam-dunk. However, the cops start to lean on them and tell them that their accomplice is starting to talk. If Prisoner B rats he goes free, and Prisoner A gets 10 years. The same is true if Prisoner A rats. If your “friend” is willing to rob a bank, how likely is it that he would not lie to stay out of prison? Both prisoners panic, and both rat on each other. Both go to prison for 5 years. This happens quite often in the real world and has been a police interrogation technique for a very long time.

We would like to think that loyalty would win out, but the consequences are just too big most of the time. When this game is repeated over and over again, the game changes, it is called a Repeated Game. Very creative right? Because the prisoners know that they are going to have to trust each other many times, they stick by their friend and don’t rat out as easily.

How does this relate to Capitalism?

While I wish that everyone could be an economist, I know this is not possible. Most who support the free market simply trust that they are being treated fairly and that people in society are receiving only the fruits of their ideas, investments, or labor. Let me reiterate an economic definition that I used on my blog a few days ago: Rent Seeking. According to Wikipedia, “In economics, rent seeking occurs when an individual, organization or firm seeks to make money by manipulating the economic and/or legal environment rather than by trade and production of wealth.” More specifically, this includes tax breaks, special contracts, welfare checks, and other special treatments.

When one group receives these kinds of rents, a.k.a. Free Money, we lose trust that we are being treated equally and envy leads other groups to seek their own rents. The best solution is to take away their rents, as I have proposed, but unfortunately, our system has made it much easier to seek rents then to remove them. It has become a game like the prisoner’s dilemma. Here is a new illustration depicting this problem.

As long as rent seeking is easy, people will seek rents. As long as rents are given, we will not trust each other and we will seek our own rents. As we seek more rents, the economy will not work as well, there will be fewer jobs, and we will slowly lose our personal freedom. Getting rid of Earmarks, setting up a transparent Flat Tax, and eliminating the Corporate Tax will make rent seeking much more difficult.

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