Thursday, December 8, 2016

Growth full oped

Source: Wall Street Journal

On November 7 I wrote "Don't believe the economic pessimists," an oped about growth in the Wall Street Journal. Now that 30 days have passed, I can post the whole thing here. pdf here (my webpage).

Don't Believe the Economic Pessimists

No matter who wins Tuesday’s presidential election, now ought to be the time that policy makers in Washington come together to tackle America’s greatest economic problem: sclerotic growth. The recession ended more than seven years ago. Unemployment has returned to normal levels. Yet gross domestic product is rising at half its postwar average rate. Achieving better growth is possible, but it will require deep structural reforms.

The policy worthies have said for eight years: stimulus today, structural reform tomorrow. Now it’s tomorrow, but novel excuses for stimulus keep coming. “Secular stagnation” or “hysteresis” account for slow growth. Prosperity demands more borrowing and spending—even on bridges to nowhere—or deliberate inflation or negative interest rates. Others advocate surrender. More growth is impossible. Accept and manage mediocrity.

But for those willing to recognize the simple lessons of history, slow growth is not hard to diagnose or to cure. The U.S. economy suffers from complex, arbitrary and politicized regulation. The ridiculous tax system and badly structured social programs discourage work and investment. Even internet giants are now running to Washington for regulatory favors.

If you think robust growth is impossible, consider a serious growth-oriented policy program—one that could even satisfy many of the left’s desires.


• Taxes. The ideal tax system raises revenue for the government while distorting economic decisions as little as possible. A pure tax on consumption, with no corporate, income, estate, or other taxes is pretty close to that ideal.

The U.S. tax system is the opposite: By exempting lots of income, the government raises relatively little money. Yet an extra dollar is heavily taxed, greatly lowering incentives and encouraging people to find or create exemptions. This massive complexity and obscurity undermine faith in the system.

Progressives, ponder this: With a sales tax of only 25%, the government would likely have gotten a lot more money from Donald Trump—who has employed complex but legal tax-avoidance schemes—than it did by purporting to tax income at high rates.

• Regulation. U.S. regulation is arbitrary, slow, discretionary and politicized. Speak out on the wrong side of the party in power and some federal agency will be after you.

Imagine a deep rule-of-law regulatory reform, along the lines proposed by House Speaker Paul Ryan’s “Better Way” plan. Congress must review and approve major regulations. People and businesses have a right to see evidence and appeal. Regulators face a shot clock—no more years and years of delays on decisions. Agencies must conduct serious, transparent and retrospective cost-benefit analysis.

Imagine a similar deep reform of state and local restrictions including zoning laws and occupational-licensing regulations.

• Social programs. When many people earn an extra dollar, they lose more than a dollar of benefits. If we fixed these disincentives, more Americans would work—and fewer would need benefits.

• Health. Replace ObamaCare with a simple health-insurance voucher. Deregulate insurance and entry into health care dramatically.

• Finance. Replace strangling regulation of financial companies with a simple rule: If you issue enough equity that stockholders bear the risks, you can do what you want. Rep. Jeb Hensarling has proposed such legislation. Hearty competition is the best consumer protection.

• Labor. The best worker protection is a worker’s ability to swiftly change jobs. This is more likely if employers do not face a mountain of red tape, complex rules and legal liability.

• Immigration and trade. The politically incorrect truth: Allowing Americans to buy from the best supplier and permitting people who want to work and start businesses to immigrate is good for the economy. Trying to impoverish China will not revive America.

• Education. Let lower-income Americans get a decent education from charter schools and vouchers.

• Energy. Trade all the crony subsidies and credits and regulations for a simple uniform revenue-neutral carbon tax. The country will have more growth and less carbon.

It would take an entrenched obtuseness to claim such a program cannot substantially improve economic output and incomes. If you claim such good policy cannot help, then it follows that bad policies do not hurt. Nativism, trade barriers, overregulation, legal capture, high taxes, controlled markets and people excluded from work won’t hurt our slow but positive growth. Don’t give populists cover to try it again.

If you object that such good policy is politically infeasible, then you at least grant that robust growth is economically possible. And small steps help. Current bipartisan proposals to reform taxes, Social Security, immigration, the regulatory state and trade agreements would go a long way to reviving growth. Have a bit more faith in democracy.

On the other hand, the major party presidential candidates’ signature plans—child-care tax credits, college subsidies, higher taxes on people who don’t hire good enough lawyers; threatening a trade war and deporting millions of unauthorized immigrants—cannot revive substantial growth.

So why is there so little talk of serious growth-oriented policy? Regulated and protected industries and unions, and the politicians who extract support from them in return for favors, will lose enormously. The global policy elite, steeped in Keynesian demand management for the economy as a whole, and microregulation of individual businesses, are intellectually unprepared for the hard project of “structural reform”—fixing the entire economy by cleaning up the thousands of little messes. Even economists fight to protect outdated skills.

Mr. Cochrane is a senior fellow of the Hoover Institution and an adjunct scholar of the Cato Institute.

19 comments:

  1. Good to read the growth full oped here!

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  2. Your proposals are more or less what Trump promised. Let's hope he succeeds.

    I thought you opposed him for some reason, perhaps because you don't understand the Trump Show is not the main course.

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    1. Trump is about as far away as one can get with regard to John's ideals for trade and immigration.

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  3. You keep calling it a consumption tax. Are you really expecting the consumer to calculate it and send it in at the end of the year? :)

    I am generally well-disposed toward replacing the income tax with a consumption tax, because I am generally better-disposed to discourage consumption than to discourage income, if something has to be discouraged. But the more I think about it, the less well-disposed I am to consumption taxes.

    It is reasonably possible for the average person to know what their income is, and so, under a simple income tax, calculate what their income tax is. That makes it reasonably possible to not force employers to become an enforcement arm of the federal government, calculating, collecting, and remitting taxes (and forcing them to hide some taxes, such as the “employer” “half” of the social security tax). It doesn’t seem reasonably possible for the average person to know what their consumption is, and so to calculate their own consumption taxes. The seller will always have to be forced by the federal government to calculate, collect, and remit such taxes, which will mean both that consumption taxes will always be a damper on new business creation, and that consumption taxes will always conceptually be sales taxes.

    Further, much of the benefit from the consumption tax appears to be that, when it’s new, a consumption tax will be simpler than an income tax. But once the consumption tax is the hammer that Congress holds, won’t it become just as complicated and prone to tax-avoidance schemes as the income tax is? Perhaps more so, as most people have far more sources of consumption to shift the definitions of than they have sources of income. As long as there will have to be definitions of consumption and consumers (or of sales and sellers), it seems like there will be at least as much, if not more, incentive on the taxpayer side, especially among those whose consumption taxes will rival the cost of hiring tax lawyers, to work the complexity in order to pay less.

    It also seems like it would be a lot easier for Congress to decide that some forms of consumption deserve to be taxed more, than it is for Congress to decide that some kinds of jobs need to be taxed more. So that while it is undeniably hard to simplify our current income tax system of deductions, exemptions, floors, and ceilings, it will be even harder to keep a consumption tax free of the same problems.

    I would, in actuality, not rhetorically, love to be convinced otherwise.

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  4. Jerry, consumption tax would be collected at the checkout register just like it is collected today everywhere there is a state/county sales tax. There's literally zero compliance cost for you and me, and virtually zero collection cost since the technical infrastructure is already there for the vast majority of retailers. It is really the best of all possible worlds - no collection cost, no compliance cost, no reporting, no avoidance, no evasion, etc. Plus all the resources that are today wasted on tax compliance, preparation, planning, etc. will be freed up to do something productive. Think about a bright kid who, instead of getting a CPA and working as a tax consultant, goes to a medical school instead.

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    1. First, would there be an exemption for businesses in states that don't collect sales tax today?

      Second, I think you’re still assuming that sales taxes will remain as simple in the future as they are now.

      And, third, I think you’re confusing “no visible compliance cost” with “no compliance cost”.

      The idea that the federal government adding a new sales tax on top of existing ones, even in states that do have a sales tax, will result in no additional compliance costs, seems unlikely to me.

      Further, it doesn’t make sense to me that there will be no avoidance or evasion, either. A 25% additional sales tax is going to add up to a lot of money. The incentive to evade sales taxes will increase, a lot.

      It sounds like you’re assuming that the problems with the income tax are problems with the income tax, and not problems with what the federal government has done to the income tax. My concerns are that (a) the federal government will make sales tax at least as complex and intrusive as they do to income taxes, and (b) that it will be easier for them to do so and get away with it because of the nature of sales taxes (applied to things) vs. income taxes (applied to people).

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    2. No exemption, of course - this would be a federal sales tax, applied to all retail sales nationwide. Whether or not a particular state or county already has its own sales tax would not matter.

      Now, I used "zero" and "no" in relative sense in my post. Of course there will be some collection and compliance cost, but it will be orders of magnitude less than that of the current system, and "a few orders of magnitude less" means, in practical terms, zero. If you live in a locale with a sales tax, how much of an effort is it for you to pay it? For the retailer to collect it? Do you need to keep track of all your purchases and file a "sales tax form" once a year? See what I mean by "practically zero cost"? Now, if you wanted to avoid paying the sales tax today, can you think of a way to do that? I can't, at least not in any way that wouldn;t involve a collusion with the retailer, who most likely wouldn't play along - I mean, why would he?

      > It sounds like you’re assuming that the problems with the income tax are problems with
      > the income tax, and not problems with what the federal government has done to the income tax.

      Actually, I think it's both. There are fundamental problems with income taxation, no matter how small and simple: it forces people, businesses, and the government to keep track of all the earnings; it discourages extra work; it leaves out cash/shadow transactions; and it tempts people to cheat (that lunch I had with a friend, who is to say it wasn't a business meal?). And there are the myriads of layers of complexity that the government has added in the last 100 years. A sales tax will be free from the fundamental problems of income taxation, and it will be much more immune to added complexity, simply because any such addition would be very visible and would be met with much resistance. True, it is possible that with time a simple flat 22% tax would devolve into something messier and multi-layered, but it would be nowhere near the monstrosity that is today's income tax code.

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  5. I have read the full op/ed.

    It seems to me that Professor Cochrane suggests various changes and then makes the leap to asserting that those changes would have material effects on growth. The benefits from his policy preferences may be small or non-existent.

    A tax reform shifting from income tax to a national sales tax would shift the tax burden from the wealthy to the middle and lower classes. As a general proposition I do not believe that reducing the tax burden on the wealthy will generate any economic benefits for the middle class and may have two adverse effects: (1) with their low propensity to spend reducing the tax burden on the wealthy may increase the global savings glut; and (2) lead to the run away accumulation of wealth in the hands of the wealthiest 0.1%.

    There is one piece of reasoning that I strongly disagree with. Professor Cochrane says: "If you object that such good policy is politically infeasible, then you at least grant that
    robust growth is economically possible."

    The logical fallacy in that statement is that I do not agree that your underlying suggestions are good policy and I do not agree that they would lead to robust growth. Many of them are are both bad policy and politically infeasible. (I agree with the suggestion that benefit programs should be designed and integrated in such a way that beneficiaries do not face an effective marginal tax rate higher than some benchmark like, say, 50%)

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  6. I'm a lawyer. I believe in rule of law and property rights. (Bishop Absalon founded Copenhagen, "Merchants' Harbor", by imposing law and order and protecting property through state violence against pirates and brigands.)

    The first problem with your rule of law approach to regulation is that lawyers and judges as a class are not well suited to dealing with highly technical issues. They are by training and temperament generalists - trained to be able to rapidly acquire a shallow understanding of new material.

    The second problem is the implicit bias towards a free for all. Suppose your neighbor announced a plan to store 10,000 pounds of high explosive in his basement. Should the onus really be on you to do an elaborate cost / benefit / risk analysis to show why he should not store the explosives. How would you ever put a price on the loss of peace of mind?

    Your proposal would seem to require that every uncertainty about the severity of externalities would be resolved in favor of business.

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  7. Everytime I read the "consumption tax" argument especially coupled with the "well, 'insert name of high worth individual here' would have paid more tax under the current tax regime" in the name of some sort of claimed lassez-faire economic model invariably seems to ignore three central principles. I would love to see someone address them head-on, or at a minimum point me to some reading that doesn't automatically assume that these principles can be ignored.

    First, the current income based tax model in the United States is not, in any sense, truly progressive. The degree to which tax subsidies are inserted into the system skew the effective rates are not insignificant, and every indication is that the subsidies are generally targeted at those, and thus taken advantage of by those, who are at the highest marginal rates. I don't understand why, but the (un?)intentional confusing of effective versus marginal rates seems to be a central theme here. If Donald Trump (so quoted) paid full marginal rates on his entire income without all sorts of clever tax incentives and subsidies, I am fairly confident that his tax burden under the current tax system would far exceed that of a consumption, nee VAT, tax. In fact, it's probably safe to say that it would approach the limit of 39.6% versus say a 25% tax on only the consumption part of his income, which is unlikely to equal the entirely of his income.

    Second, and perhaps of most interest to me, is why is marginal utility not discussed? This is my primary problem with any sort of consumption based tax especially without a subsidy or exemption for some degree of "livable" income. What arguments exist that the marginal value of the the highest earned dollars approaches that, or more importantly equals or exceeds that of the lowest earned dollars? A quick Google search returns the following from a E&Y report reviewing VAT impacts on the UK:
    "The distributional effects of enacting an add-on VAT can be summarized as follows. As a tax based on consumption, the VAT tends to be regressive relative to households’ annual income since consumption is a larger fraction of annual income for the poor. This effect is mitigated in the simulations either by excluding certain goods from the VAT base (i.e., the narrow-based option), or with a low-income VAT rebate (i.e., the broad-based VAT), or by the combination of both policies."
    - http://www.bakerinstitute.org/media/files/Research/bbb83cf0/TEPP-pub-NRFValueAddedTax-100710.pdf

    To me this implies that the marginal utility of the lowest earned dollars is the highest, and thus should be most shielded from tax, whereby the high earned dollars, which would be implied to the have the lowest utility should be most susceptible to being impounded for the common and public goods.

    Finally, any intro econ book will discuss at length demand elasticity. An unadorned consumption tax will clearly target the segments of the population with the lowest degree of demand elasticity e.g. food and housing, while simultaneously disincentivizing those with the highest degrees of demand elasticity e.g. luxury goods to spend. This creates a perverse environment where those least able to afford the tax pay the bulk of the cost of the tax due to the inelasticity of their demand, while those most able (due to the low marginal utility of their incremental dollar and the high elasticity of their demand) can shift the effective costs of the tax to the supplier.

    While I don't disagree that structural reform is necessary, I am severely unconvinced that your most of your approaches are the right structural fixes. Some make sense - e.g. putting regulators on a reasonable clock to resolve regulatory concerns, however, binding the courts to the same burden is fraught with risk. Others, the data already shows, are demonstrably wrong once controlled for selection bias e.g. moving public education dollars to for-profit charter schools. Links would be appreciated.

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  8. John,

    "• Taxes. The ideal tax system raises revenue for the government while distorting economic decisions as little as possible. A pure tax on consumption, with no corporate, income, estate, or other taxes is pretty close to that ideal."

    No it is not close to that any ideal tax system, for a number of reasons.

    Reason #1 - The ideal tax system overcomes the limitations inherent in monetary policy (see zero bound, pushing on a string, etc.). A consumption tax does not get you there.

    Reason #2 - The ideal tax system is a macro policy tool. As such, regular adjustments in response to the business cycle should be made (preferably without the involvement of Congress). A consumption tax implemented by Congress does not get you there.

    Reason #3: The ideal tax system IS NOT a revenue maximization scheme. The federal government can literally print all of the money that it deems necessary.

    Reason #4: Exempting income obtained from the sale / transfer of certain types of goods from taxation (see stocks, bonds, patents, copyrights, and other legal contracts) is a terrible idea, given that part of the government's job is to provide a system of courts where contract disputes can be resolved.

    Reason #5: Any system of legally binding taxation is an economic distortion. The argument that taxation should limit economic distortion is nonsensical. If taxation should not cause economic distortions then it cannot adequately perform it's job as a macro stabilization tool.

    "The U.S. tax system is the opposite: By exempting lots of income, the government raises relatively little money."

    That is an argument to get rid of most exemptions - something that most economists and people would agree with. That is not an argument for a consumption tax.

    "Yet an extra dollar is heavily taxed, greatly lowering incentives and encouraging people to find or create exemptions."

    That is an argument against a progressive income tax. Most conservatives would agree with that - Steve Forbes ran on a flat tax with limited exemptions. That is not an argument for a consumption tax.

    "This massive complexity and obscurity undermine faith in the system."

    And there is nothing overly simple about a consumption tax. Again, most people agree that the U. S. income tax code is overly complex and convoluted, but that doesn't mean that a consumption tax would be any less complex and convoluted.

    "Progressives, ponder this: With a sales tax of only 25%, the government would likely have gotten a lot more money from Donald Trump—who has employed complex but legal tax-avoidance schemes—than it did by purporting to tax income at high rates."

    Ponder this instead:

    Question #1 - How does a 25% consumption tax overcome the zero bound inherent in monetary policy?

    Question #2 - What makes you think that a 25% consumption tax is the right tax rate today, tomorrow, five years from now, thirty years from now?

    Question #3 - What makes you think that the Laffer curve revenue maximization point rests at a 25% consumption tax rate?

    Question #4: Suppose the U. S. government goes to a consumption tax. Why should it continue to provide legal services to buyers and sellers of financial contracts?

    Question #5: What makes you think that real economic growth will be maximized with a 25% consumption tax?

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    1. I really don't get the connection between taxes and monetary policy. I agree that the tax code and the rates are separate issues, and the rates should be adjusted regularly, as spending needs, business cycles, and political whim dictate. When governments print all the money necessary bad things happen. See Venezuela or ZImbabwe. The tax rate depends on spending. If the government is going to spend 20% of GDP, then taxes are going to have to be 20% of GDP. Growth is maximized with the lowest marginal rate.

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    2. John,

      "I really don't get the connection between taxes and monetary policy."

      "I agree that the tax code and the rates are separate issues, and the rates should be adjusted regularly, as spending needs, business cycles, and political whim dictate."

      I don't agree that tax policy should be adjusted as political whim dictates - that's the point. If tax policy is to be a serious macro-adjustment tool, then adjustments should be made outside of the realm of political whim.

      That is the connection between monetary policy and tax policy - monetary policy is relied on too much to do the heavy macro lifting and has limitations. If tax policy was fashioned to operate more like monetary policy, then many of the limitations of monetary policy could be overcome.

      "When governments print all the money necessary bad things happen. See Venezuela or Zimbabwe."

      You do realize that the U. S. had existed for over 100 years before the central bank was created, and prior to that time the U. S. used currency printed by the U. S. Treasury (Government)? U. S. independence began is 1776, the U. S. central bank (Federal Reserve) wasn't created until 1913. Your Venezuela and Zimbabwe references are examples of what can happen, but not guarantees of what will happen.

      I don't advocate the U. S. government returning to printing money directly, I only brought it up to refute your claim that the ideal tax system "raises revenue" for the government. That is not why a government taxes it's citizens.

      "The tax rate depends on spending. If the government is going to spend 20% of GDP, then taxes are going to have to be 20% of GDP. Growth is maximized with the lowest marginal rate."

      No, incorrect. First, that only occurs with a balanced budget (something the U. S. government has rarely achieved). Second, your presumption is that minus a balanced budget, government must finance deficits with the debt - when it could just as easily sell equity. Third, growth is maximized with the lowest tax burden (balance sheet economics) not lowest tax rate (cash flow economics).

      With debt sales, the U. S. government bears all of the risk. It becomes possible that tax revenue will be insufficient to make the interest payments on the outstanding debt. With equity sales, the buyer of said U. S. government equity bears all of the risk.

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    3. "Growth is maximized with the lowest marginal (tax) rate."
      Really John?
      I don't see that connection. Surely growth is more strongly dependent on many other factors?
      What if government spending were solely used to do stuff that is more efficiently done there than in the "private sector" (not to claim that it is so now)?
      I accept that useless government spending consumes resources that otherwise could be used growthfully, but equally could be wasted in useless private sector activity.
      Besides that growth must, surely, be taken with a pinch of salt. Consumption of limited physical resources must be regarded as temporary. Exhaustion thereof must be brought on sooner by growth of that consumption rate.

      If we cannot live without an endlessly growing economy aren't we doomed?
      --E5

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    4. Growth as a function of tax rates is maximized... Geez, I though this was obvious. Duh, it's a function of a lot of other things too.

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    5. Anonymous,

      "Consumption of limited physical resources must be regarded as temporary. Exhaustion thereof must be brought on sooner by growth of that consumption rate."

      1. Ever heard of value added? Take some steel, rubber, glass, leather, and a power source, mix them in the right proportions and out pops a motorized vehicle. The motor vehicle will likely cost more than the raw cost of the materials used to build it.

      2. Ever heard of recycling?

      3. Take a look up at the sky at night. Out there are the same raw materials that exist here on Earth. It's not a question of running out of "limited physical resources". It's a question of transporting those plentiful physical resources in a timely fashion to where they can be put to use.

      "If we cannot live without an endlessly growing economy aren't we doomed?"

      When economists talk about growth, what they really mean is growth in trade denominated in the currency of preference. A barter or self-sufficient economy can "grow" just fine, it just becomes a lot more difficult to measure that growth.

      All that being said, if you are implying that by growing, we starve ourselves then I disagree. If you are implying that growth facilitated by government sponsored currencies is doomed to fail - then I would like to hear more.

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    6. Yes Frank, and you can call me Michael, I have heard of 1 and 2 and I delight in the sense of wonder that can be had by looking up at a clear night sky. We get to appreciate that in the mountains. Less so in the urbs. That sense of wonder is enhanced by knowing the magnitude of what is seen. That knowing can include a sense of the distance to those visible objects, the nearest of which is pretty far away. That there is "pie" (i.e. useful stuff) in the "sky" is without doubt. But to propose accessing that "pie" in a significantly useful way is, genuinely, pie in the sky. That's my assessment of the situation anyway. i.e. we are obligated to make the best we can with the resources of this planet.
      So growth had better not be implying that, for instance, we can pull a greater tonnage of fish out of the ocean each year without some day being shocked to find there are no longer any fish in the ocean.
      This example takes account of recycling. I think of three kinds of recycling.... 1. industry; 2. biology; 3. geology.
      I presume you have a good handle on this stuff. Biology can do 100% recycling but it takes time. There is a limit to the mass flow that is possible. Thus growth up to a limit.
      Geology also does 100% recycling but it takes a very long time.
      Industry, so far, does less than 100%. Thus raw materials continue to be used up.
      Of course there is validity in the argument that process improvements will push out in time the point at which resource limitations impede production and force negative growth.
      Also one can argue that the economy may morph in the direction of value being in intellectual product for which there are no physical constraints.

      Might I also suggest, though, that if we could find a way to solve our economy problems (e.g. national debt, for one) without success being dependent upon growth then we could live with a lot less anxiety about the future.
      And spend a lot more time enjoying the night sky.
      --E5

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    7. Michael,

      "I presume you have a good handle on this stuff. Biology can do 100% recycling but it takes time."

      Bingo, bullseye. It's not "physical resources" that are the limiting factor. The limiting factor is time - that is the precious resource that we all are constrained by. If we all lived for 500 years or 10,000 years then those far away places become reachable in a single lifetime.

      The trouble is that economists far too often fall into the trap of looking at physical objects as having value derived from a supply limitation (see gold bugs).

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  9. One thing that really bothers me about a consumption tax (or a VAT) is that people would have no skin in the game as to how much they would pay in taxes . How much sales tax have you paid in the last year in your state? I bet no one reading this knows the answer to that. It is critically important that taxpayers understand and notice how much they are paying in taxes.

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