‘The Way the World Works’

I’ve been reading ‘The Way the World Works’ by Jude Wanniski.

This book is an interesting ‘next step’ after reading ‘The Wealth of Nations’ by Adam Smith.  Both are written by non-professionals who use their power of observation to advance their thoughts on economics.  And both use a lot of examples to justify their conclusions.

Both illustrate the tendency of government policies causing reactions that are completely opposite to those intended.  (This seems to be a common problem with government policy!)

Wanniski accepts Author Laffer’s ‘Laffer Curve’ and attempts to show that this theory can be used to explain most of the major economic circumstances of the past.  His theory is supported by his evidence.

What is the Laffer Curve?  Stated simply it says there are two levels of taxation that achieves the same revenue.  One is at a relatively low level and promotes economic growth.  The other is relatively high and limits economic growth while it encourages tax avoidance.  (History shows that very high taxes are frequently accompanied by lower tax revenue which illustrates the validity of the theory.)

Laffer cannot identify those levels.  His contention is that the taxpayer identifies the level as being too high when they perceive that the tax is greater than the benefit coming from that tax.  Unfortunately, that is not the way taxes are determined!  They are determined by some political leader and may or may not reflect ‘good value’ to the taxpayer.  For this reason applying the Laffer Curve is a ‘trial and error’ effort.

Methods of tax avoidance are well developed and illustrated by example.  Included are:

  1. Reduced effort
  2. Relocation
  3. Returning to a ‘Barter Economy’

Wanniski does introduce a new term (at least to me) which he calls ‘the wedge’ and more broadly defines as anything that reduces the ‘value’ of ‘work’.  Things that contribute to the wedge are high taxes, high regulation, inflation or anything else that lowers the purchasing power of ‘work’.

I wish he had spent more time developing the concept of the ‘wedge’.  I believe this may be a measure that is of much greater importance and value than any purely ‘tax’ theory which is primarily aimed at revenue generation.

This administration is dramatically increasing the ‘wedge’ with regulations and proposed taxes.

We are seeing rapid growth in ‘reduced effort’ with more and more people drawing ‘unemployment compensation’ and the rapid increase in ‘disability insurance’.  This is pretty good evidence that the government ‘wedge’ is simply too large.

The one thing that Wanniski illustrates is that increasing the wedge is exactly the wrong approach to stimulating economic growth.  Growth is stimulated by reducing the wedge and failing to do that is bound to lead to further economic pain.


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