12. Tax the rich the right way

“Tax the rich” is one of the most popular political ideas that has been offered as the solution to almost every problem, such as deficit, education, equality, retirement and medical care etc. For the moment, let’s set aside the ideologies and just focus on the technical aspects of how to effectively collect tax revenues from the rich. It turns out that taxing the rich is not as easy as raising the tax rates.

Why taxing the rich is hard?
First, there is an important distinction between the net worth and income. The term “the rich” usually refers to those people with high net worth, i.e, the total asset value net of liabilities. A rich person may only have a modest income; conversely a person with high income may not be rich yet. For example, a lawyer who just started his practice may not have much net worth despite his high income, especially if he still carries a large student loan balance. In principle, “tax the rich” means taxing those with a lot of net worth rather than those with high income; for example, a billionaire with no income should be paying more taxes than a doctor who is still struggling with his student loans by all fairness.

However, today’s government taxes are almost exclusively assessed on a person’s income rather than the net worth. There are many reasons, the most fundamental one is that taxing the net worth is a form of property confiscation that violates the private property rights, which is one of the sacred founding principles of the free world. Even if we are willing to ignore the problem with the private property rights, there are still many technical difficulties in taxing the net worth. First, it is difficult to measure a person’s net worth, especially if he owns illiquid assets such as real estate and art collections; it is too much of a burden if the taxpayer has to hire accountant to audit his net worth every year. Secondly taxing the net worth may force the taxpayer to liquidate their assets prematurely if he does not have enough liquid assets to cover his tax liability. Thirdly, a person’s net worth may go up and down, and it is only fair for the government to refund part of his previous year’s tax if the taxpayer suffers a net worth loss. However, the requirement to refund the past taxes makes it difficult for the government to budget and plan its spending because its tax revenue may disappear or even go negative during a recession when the tax revenues are most needed. The last point is not a problem for income taxation because it is unusual for a person’s to have negative net income. Therefore, directly taxing the net worth can be objected on the grounds of the fundamental principle and the practicality.

If we accept that the taxation has to be income based, what’s wrong with simply raising the income tax rate? The problem is that the rich can easily evade income tax, and there are many ways to do so. Moving out of the country is one of the obvious means to evade income tax; another way is to hide the income as property value appreciation, which is usually not taxable. Let’s take the owner of a company as an example, and assume that all his wealth is in the company for the sake of the argument. If the income tax rate is raised very high, all he needs to do to evade the income tax is to suspend the dividend payments from his company. Since all his wealth is in the company, no dividend payments means he no longer has any income thus no taxes. However his wealth continues to grow as the company becomes more valuable with all the trapped earnings that would have been paid out as dividend otherwise. The salaried employees of the company would be paying more taxes than the owner, which is clearly not the intention of ‘taxing the rich’.  This rather stylized example shows that it is easy for the rich to enjoy the uninterrupted accumulation of wealth without reporting much income. Therefore, the attempt to tax the rich by raising the income tax rate is not going to work.

The estate tax is the only legitimate tax on the net worth without violating the private property rights, as the estate is the heir’s income. However, there are ways to evade the estate tax as well. For example, the heirs can set up trusts or charitable organizations, allowing them to evade the estate tax while retaining the control of the assets. Therefore, increasing estate tax rate is not likely to succeed either.

The senior ownership
So the big question is how to tax the rich successfully. By success, we mean collecting a lot of tax revenue, and ideally the rich should voluntarily foot the large tax bill without governments’ coercion. How can we design a taxation scheme that can tap into the rich’s net worth without violating the private property rights, and how can we do so easily, effectively and fairly in practice, so that the rich will pay their share voluntarily?

The only way to achieve this is for the government to establish a legitimate co-ownership of a person’s net worth, in return for the government services. Such an arrangement is very common in private sectors, for example, people invest money to a private company in exchange for some ownership stake. However, regular ownership comes with the responsibility of managing the assets; the government clearly does not have the resources, expertise or the right incentives to manage individuals’ assets properly. The solution is to structure the government’s stake as a form of senior ownership, similar to the preferred stocks or debt of a private company.

In a private company, the common equity investors are the junior owners, they are junior in relative to the investors in preferred shares, convertible bonds and debts. The equity investors own all the residue value of the company after paying off all the senior owners; therefore they benefit the most if the company is successful; however if the company goes bankrupt, the senior owners have to be paid before junior owners once the company is liquidated, so that the junior owners lose the most under such an event. Given that the junior owner’s interests are the most aligned with the company’s success, the junior owners are usually entrusted to run the company’s day to day business through its board of directors. The senior owners usually do not interfere with the company’s management, and only get involved under extraordinary circumstance such as bankruptcy and ownership changes (as in merger & acquisitions).

A senior ownership in individuals’ assets, like the preferred stock or callable bond holders of a company, is an appropriate form to protect the government’s interests because it does not come with any responsibility to manage individual’s assets; and the government’s stake has to be paid off first before the individual can transfer the ownership of his assets, as in his death or donations to trusts or charities.

Let’s consider a concrete example of how the senior ownership can be used to tax the rich fairly and effectively. Suppose that a state uses the public money to fund affordable and high quality education to its local residents. The benefit of education materializes throughout the life time of the graduates via better earning powers; however some state residents may choose to move to other states thus will not pay back the state government’s education subsidy via the state taxes. Also, today’s higher educations are commonly funded by student loans, which often become a heavy burden for most graduates. A creative way to fund the public education is for the state to claims a senior ownership to the college graduates’ future income and estate, in return for the subsidized education. The beneficiary of the public education has to pay the state a fixed percentage of his annual income over his lifetime and the same percentage of his estate upon his death. This form of ownership is very similar to the preferred share commonly found in private companies.

The important differences between the senior ownership and traditional state taxes are, first the senior ownership can be collected no matter where the student chooses to live; secondly it is tied to the overall net worth of the graduate by claiming the same percentage on the estate upon his death, thus there is no incentive for the graduate to hide his income in the form of asset appreciation because eventually the same percentage goes to the government upon his death; thirdly the senior ownership has to be paid off first before the graduate can transfer the ownership of his assets, thus donating the assets to trusts or charities won’t relieve the graduates’ liabilities. The senior ownership does not violate the private property rights either because the ownership belongs to the government in the first place.

To most students, the senior ownership is going to be much more cost effective to fund their education than student loans. The reason is that out of a large pool of young students, it is almost certain that some of them will become very successful and wealthy over time; therefore the future rich will end up with paying a lot more and effectively subsidizing those less fortunate.

Wealth Distribution in America (Courtesy of UCSC)

Under some stylized assumptions, we estimated that the government only need to claim roughly 1% of students’ future income and estate to fund 4 years of college education, if the un-subsidized tuition is $40,000/year. The left pie chart above is a distribution of American’s net worth, if we assume that the final net worth distribution among college graduates are similar, then the 80% of the graduates will collectively pay 11% of the total tuition, ie, equivalent to $5,500/year for each student; while each of the richest 1% of the student will end up with effectively paying $1,400,000/year for the same education.

The senior ownership can also be used to fund other government programs, let’s take the social security as an example. The current social security tax rate is 6.2% on the first $113,700 of individuals’ income. If we fund the social security using senior ownership and apply the same net worth distribution above, then the 80% of people’s equivalent social tax rate would be effectively 0.85% for the same social security benefits, while the richest 1%’s equivalent social security tax would be 217% on their first $113,700 income.  As you can see, the senior ownership is dramatically more progressive than any of the existing tax code, but it is also fairer and morally superior because it has the rich people’s prior consent, before they become rich. In another word, the rich is willingly paying much more.

Therefore, the key to successfully tax the rich is to obtain their consent to give up a percentage of their future income and estate before they become rich. The senior ownership works in the opposite way as insurance policies, where the insurance buyers pay a small premium before the accidents occurs, and the premiums are pooled together to cover the rare but costly accidents. The senior ownership is for a group of people to agree that they will evenly re-distribute a percentage of their collective future wealth before any of them becomes rich. Becoming rich has a lot of similarities to an accident, in that it only happen to very few people, and the impact to those affected is disproportionately large.

The human capital market
The senior ownership sounds great, but there are several technical issues worth careful considerations, the first is how to prevent the rich from hiding the assets or underestimating their net worth. For example, a rich person could directly pass valuables to his heirs without paying off the senior ownership. The other problem is that it takes a very long time for the government to cash out its senior ownership, but the government certainly need short term funding. Both these problems can be solved by creating a market to trade governments’ senior ownership in individuals’ income and estate, we call it the human capital market.

Interesting financial products can be created by pooling senior ownership of a cohort of people together and trade them as a whole. For example, the pool of senior ownership of Harvard graduates (think Zuckerberg) would worth a lot more than the pools of community college graduates. The human capital market also let a person buy back the government’s senior ownership on himself to effectively pay off the government’s interests. The government can raise cash by selling its senior ownership to the market, which relieves the government from the burden of having to audit and value individuals’ net worth. The history has taught us that market force is extremely effective in price discovery, we therefore have strong reasons to believe that the same market force will discover the fair and accurate valuation of the senior ownership of individuals’ future income and estate. The investors who bought the rights to individual’s senior interests from the government would have the right incentive and resources to police and fight the fraud, and ensure that the person’s asset value is reported correctly.

A senior ownership market on people’s future earning and net worth has other interesting benefits, one of them is to put a market price on the value of higher education. For example, the same senior ownership on a Ph.D. degree holder should be more valuable on average than a Bachelor degree holder; we can even directly observe which university and majors offer the best value.

The senior ownership can offer some interesting solutions to fund retirement, what’s better for retirees than an income stream that is tied to the income and net worth of a group of highly educated workers? Such an income stream is automatically adjusted for inflation and economic growth. The retirement funding is a very interesting subject and I will elaborate more in future blogs.

How govlet helps
The senior ownership is an innovative scheme to fund government services.  However, it is not feasible under the current legal system, because the senior ownership can only be legally established on corporations but not on a natural person. Fundamental legislative measures need to be created in order to treat a natural person as a corporation, and allowing him to give up a senior stake in exchange for government services. The senior ownership is admittedly more complicated than the current income based taxation, therefore it is destined to meet much skepticism thus is unlikely to be adopted under the current political system due to the legislative and legal difficulties. However, the govlet system allows small group of people to experiment such ideas, and hopefully more people will adopt once they observe the benefits.

11. A different kind of union

The labor union is one of the most divisive issue in American politics. In previous blogs, we have laid out the basic principles of the distributed govlet system, and let’s use them to design a solution for labor unions that makes everyone happy.

Why the labor union is such a controversial and divisive issue? The following are the three main stakeholders in labor unions, and their best interests and the consequences of fullfilling that:
Workers: better pay/benefits  → higher prices to consumers, lower business profit
Business owners: more profit → lower pay/benefits for workers, higher prices to consumers
Consumers: lower prices → lower pay/benefits for workers, lower business profit

The consumers include both workers and business owners, as well as other groups such as professionals (aka, exempted employees) and people not in the workforce. As you can see, the interests of the three stakeholders are directly against one another, advancing the interest of one group would hurt the other two, if everything else equal. Of course people’s behavior changes in response to the economic incentives, it is incorrect to assume that everything would remain the same if one party gets a bigger slice of the pie. Therefore the fundamental debate is about which party is the main driver of the economic growth, thus advancing its interests would best stimulate the economy growth. The pro-business camp believes that the entrepreneurs create most of the jobs and innovations for growth and labor unions only lead to waste and overheads; but the pro-union camp believes that the workers are the main creator of the wealth and the main driver of the consumer demands for growth.

As discussed in blog #2, there is no universal truth and we should let both sides to turn their beliefs into corresponding laws and regulations, and test their ideas in practice. Essentially we want two govlets side by side, one is pro-union (like Sweden), the other is pro business (like Hong Kong), and give workers and businesses the choice to join either side. The pro-union govlet has the typical worker’s protection laws, such as the right to form union, collective bargain, right to strike etc. Such policies usually lead to higher labor costs, thus hurting the competitiveness of its businesses. To counter that, the pro-union govlet would have to flex its legislative muscle to protect its labor and consumer market. For example, it could and should collect tariffs on similar products from the pro-business govlet to offset the higher labor costs, the tariff collected can be used for the benefits of the workers, e.g. the unemployment benefits etc.; the pro union govlet should also require its businesses to give preference in hiring the unionized home workers. The tariff is a much more powerful and effective weapon than picketing in front of the non-union businesses. The pro-business govlet, on the other hand, would outlaw labor unions and the rights of collective bargain to ensure a competitive labor market, and it does not need any protectionism regulations because its products and services would presumably be more competitive.

Let’s look at the optimal choices for the three parties under this two govlet system.  For business owners, in order to reach the consumers in the pro-union govlet, they would have to either incorporate in the pro-union govlet thus subjecting to higher labor costs, or pay the tariff. If everything else equal, business owners should be indifferent between the two govlets because the higher costs in unionized labor can be passed to the consumers in the pro union govlet. Such transfer of labor cost is protected by the tariff, which effectively segregate the two markets. The workers in the pro-union govlet would enjoy better pay, benefits and job security but they would have to pay more for similar products and services than fellow citizens in the pro-business govlet. They may also have to stomach other pro-union legislative restrictions, such as having to send their kids to unionized schools in order to support teacher unions. For those who truly believe in unions and worker’s rights, this is certainly a fair price that they would proudly and happily pay. The consumers who are not affiliated with the pro union govlet can still enjoy the lower prices and unrestricted choices in products and services from the pro-business govlet.

As we discussed in blog #4, the pro union govlet would have to design its exit penalty carefully to prevent people from exiting right before making major purchases such as houses and cars, where the price difference between the two govlets can be significant (i.e., easily in thousands of dollars). Also, the minimum unit to join and exit the pro-union govlet would have to be households, because it would be rather damaging to the businesses in the pro-union govlet if husbands are paid with pro-union salaries and benefits, but the wives are shopping cheaply for the family as a citizen of the pro-business govlet.

The govlet system allows the Sweden and Hong Kong style governments to operate side by side and let everyone to choose according to his/her political beliefs and best personal interests. The unionized workers will probably be better off in the pro-union govlet because they would have more powerful legislative protections, such as the tariff and the preference in hiring, than what is possible in today’s political environment; and the business owners and consumers can enjoy the lower consumer prices and labor costs from the union free govlet.

It is also an objective way of settling the big debate: If the workers are the main creator of the wealth and the main consumers that drive growth, then the businesses in the pro-union govlet should thrive and become more competitive and innovative, thus attracts more businesses to the pro union govlet; and they may not even need the tariff protection after all. On the other hand, if unions do discourage risk taking and lead to lower efficiency and productivity, then the price and quality difference of similar products and services between the two govlets will become so large that unionized workers would voluntarily migrate to the pro-business govlet even with reduced pay and benefits.

Here is your perfect labor union, where everyone gets what he/she wants, and nobody is subjected to any coercion.

P.S: one important note is that the modern technology is a critical enabler for the distributed govlet system. In the example above, digital identification and payment are the prerequisite to be able to collect the tariff only from the pro union citizens, but not those from the pro business citizens. I will discuss the important role of the technology in future blogs.

10. The role of local governments

The govlet is not necessarily the right solution for every problem. By being borderless, the advantage of a govlet is to reach and mobilize people everywhere for the same political goals; however, the flip side is that the govlet’s policy cannot possibly be tailored to local needs and local conditions, while retaining its global appeal.

The existing state and local governments remain a very efficient form to manage the local real estates, such as roads, bridges, building and fire codes, zoning etc. The distributed govlets are likely to cause havoc if being applied to the local real estate management: Just imaging individual sections of your local roads and bridges are owned and operated by different govlets, and they are built and maintained with varying quality and standards, it wouldn't be a pleasant experience. Most people would agree that the proper zoning of a city helps everyone; the city therefore needs some authority over all the people and businesses within its territory to enforce a consistent zoning. In addition, when it comes to infrastructure projects, such as roads, bridges, train rails, airports etc, the benefits, costs and environmental impacts are all localized, therefore a local government with a well defined territory is at a much better position to organize these projects than a territory-less govlet.

However, besides the real estate management, all the other major functions and services of the state and local governments can be transferred to competing govlets. In the following pie chart of the local and state government spending (courtesy of usgovernmentspending.com), the bulk of the state and local government spending is in the areas of education, health, pension, welfare, protection, which are not related to local real estate management, thus can be effectively managed by competing govlets.

Though more difficult, it is possible to introduce more competitions to state and local governments even for the real estate management; this is not the main point of the blog thus I will postpone the discussion. However, to put the matter in the right perspective: If we manage to migrate 90% of the local government spending to competing govlets, the main problem of government waste and inefficiencies are solved; and we should be able to live happily with the the remaining 10% of the current government spending, such as defense, environment protection and real estate management, still being monopolized by the much smaller local and federal governments.

9. The role of the federal government

As discussed in earlier blogs, the federal government plays the important role of resolving the jurisdiction among govlets. Besides that, a few other important governmental functions or services have to remain in the hands of the federal government. 

Let's take a look at our current federal spending to understand its main functions. The following is a pie chart  of the federal budget for the fiscal year 2013 (courtesy of usgovernmentspending.com): The main federal spending are social security (pension), defense, health (including medicare, NIH funding etc), welfare etc. The remainder 18% of federal budget includes debt interests, education, environment protection, scientific research etc. 

Among these functions, defense clearly should remain the responsibility of the federal government because military training and operations are best run centrally. If govlets maintain their own armed forces, the civil wars may erupt between competing govlets. It is too much of a risk comparing to any potential efficiency gains from military competitions. It is certainly debatable whether the federal government needs to spend that much ($846 billion per year) on defense, but it is a separate issue we will revisit later. 

Another important function that should remain in the hands of federal government is the natural resource and environmental protection. The govlets cannot possibly fulfill the environmental protection objectives because they lacks the broad jurisdiction over large geographical areas, which is essential for environmental protection. In addition, the basic philosophy of the govlets is to protect everyone's right to pursue his/her own interests. The pursuit of personal wealth and profits is the primary driver for human ingenuity and productivity, and the best incentive to organize and mobilize a group of people for the common goals. However, in the case of the natural resource and environmental issues, the best interests of the current generation is clearly to consume and pollute as much as we can, and let the future generation to bear the consequences. The general population are selfish and unwilling to sacrifice their own interests and convenience for the benefits of the future generations, this is why most of the environmental protection legislation have met stern resistance on the capital hill. The future generations are the true stakeholders of the natural resource and environmental issues, but unfortunately they don't have any representations in the current political process for obvious reasons. Therefore, the federal government has to represent the interests of the future generations, and advocate and regulate natural resource and environmental issues against the selfish interests of the current generation. 

Even though the govlet system is not a good form to directly solve environmental issues, it can help discover creative ways to protect the environment. by letting those who truly care about the well-being of future generations to form govlets and experiment with new environmental regulations.

Besides jurisdiction resolution, defense and environment protection, all other major governmental functions, such as social security, health care, education and welfare, can be effectively and efficiently handled by competing govlets. By ending the federal government's monopoly in these areas, there are strong reasons to believe that the govlets will provide much more personalized services that are tailored to individuals' political ideologies without resorting to coercion, and at a much lower cost.  

8. Checks and balances

The main objective of the distributed govlet system is to protect the liberty of small groups of people to form new governments, and to enact and enforce their own laws among themselves. However, the liberty to swing your fist ends where my nose starts; equally important is the needs to protect others from being harassed by and burdened with unnecessary and frivolous laws and regulations. Therefore the checks and balances between competing and conflicting govlet are extremely important and warrant careful considerations.

To understand why we need checks and balances between govlets, let's consider the following scenario: An anti-pollution govlet outlaws all automobiles, and sends its law enforcement after foreign drivers despite the questionable jurisdiction. By "foreign", we mean citizens who are not directly affiliated with the govlet where the law is enacted. As we discussed in the previous blog, a govlet can only claim jurisdiction over a foreigner or foreign business if their actions affect home citizens or businesses. This anti-pollution govlet is claiming jurisdiction over every living driver based on the potential harms through the shared atmosphere we all breathe, as the air pollution is detrimental to its citizens' health and well-being. Even though there are some merits in its arguments, the anti-pollution govlet has clearly abused its jurisdiction. To prevent such abuses, a necessary measure is to require all arrest warrants or court orders issued by a govlet against foreigners to be checked and signed off by a federal court before it can be executed. The federal court only checks the validity of the jurisdiction, it should not judge the merits or the appropriateness of the law itself.

Ensuring valid jurisdiction is not enough, much stronger check and balance measures are needed to prevent govlets from abusing their power. The fundamental philosophy behind is that a govlet should always have the power to enforce any laws on its own citizen, after all the laws are the will of its own citizenry; but the bar has to be very high before a govlet can enforce its laws on foreigners because foreigners never sign up for these laws, thus deserving every protection from the harassment and abuse by potentially evil-willed rogue govlets.

The federal government should hold a govlet accountable for wrongful harassment or conviction of foreign govlet citizens. Federal court should have the power to charge the govlet's officials for criminal offenses if they knowingly harassed and wrongfully convicted foreigners. This measure is likely to safeguard against rogue govlets' abuse of its law enforcement power; it also creates a strong incentive for govlets to cooperate with one another in crime investigation and prosecution. For example, even if the victim's govlet has the priority in jurisdiction and solid evidence, it may want to share the evidence with the offender's govlet and have the case tried in offender's home court, to avoid potential future liabilities for wrongful convictions.

In addition, the federal government should set a minimum standard before a particular law can be used against foreigners. A reasonable minimum standard could be that the law must have been successfully enforced in the home govlet for 5 continuous years; and it must have successfully convicted 500 home cases. The minimum standard helps weed off frivolous laws and regulations that were inadequately enforced in practice. Let's look at a concrete example: Supposing a govlet's main political objective is to fight illegal drugs, it enacts a law mandating that any possession and trading of illegal drugs automatically receive the death penalty regardless of the quantity and circumstances. It is an extremely harsh punishment to its own citizen but the law is clearly the people's will within its home govlet. As a matter of the fact, countries like Singapore does have a less dramatic version of the death penalty law in place. However, before sending foreign drug dealers to the death row, the law has to meet the minimum standard. In another word, the govlet cannot execute a single foreigner before it executes 500 citizens of its own. The particular number of 500 is certainly up for debate and adjustment, but the overall idea seems only fair. A govlet should not be allowed to use a law against foreigners unless the law has been used extensively on its own people. If the automatic capital punishment does manage to meet the minimum standard (in a very brutal manner), then it will surely deter foreign drug dealers from selling illegal drugs to the govlet's citizen, or carrying illegal drugs on the premises of businesses registered in the govlet. To prevent people from unknowingly walking into a death trap, all the laws that meet the minimum standards should be published and registered by federal government, so that people can take precaution of potential legal risks when dealing with certain govlets' citizens, or in the areas where the govlets have jurisdiction.

The minimum standard ensures the political freedom of a small group of people does not end up with harassing and interfering with the general public. The threshold of 500 convictions seems to be very high for small govlets, but this is intentional because a good law can and should naturally find its way to the big stage since bigger govlets do have the incentives to copy good laws that have worked well in smaller govlets. The minimum standard thus encourages the smaller govlets to experiment and the bigger govlet to adopt; leading to quick discovery of good laws, and automatic abolishment of bad laws.

You may be wondering why we need to go through so much trouble to allow a govlet to use its own laws to prosecute foreigners, it may seem that the general public is best protected if all charges have to go through a citizen's home govlet. There are several problems, the first is that the criminal organization could take advantage of this rule and form their own govlets, and use the govlet to shield criminals from ever being prosecuted. Secondly, to effectively fight crimes, a govlet does need the power to charge whoever involved regardless of its govlet association. For example in the drug trafficking case, the capital punishment on foreign drug dealers is a much stronger deterrent than otherwise.

7. Who has the final say

The laws from different govlet are not necessarily compatible with each other, which govlet has the final say when they disagree? The govlet system will remain a fantasy unless we can design a reasonable way to resolve the jurisdiction among competing govlets.

Let’s take a look at how the current legal system works. The resolution of jurisdiction is an important and complicated process for both civil and criminal cases. If a crime or a civil dispute occurs within the border of a single state, that state usually has the jurisdiction. For interstate crimes, all the states involved have jurisdiction and the accused could be tried in multiple states. Because the same crime cannot be tried twice (aka, the no double jeopardy principle), the state prosecutors usually collaborate and try the case in the state with the best chance of conviction. Commercial contracts usually specifies the state jurisdiction under which any future disputes should be arbitrated or tried. In corporate law, the state where the company is incorporated has the jurisdiction. Since most large U.S companies are incorporated in Delaware, corporate lawsuits are primarily tried in Delaware. The lawsuits between states, mostly for water or territory disputes, have to be tried in the federal court. If both federal and state courts have jurisdiction, e.g., crimes affecting interstate commerce, the federal courts usually have priority in exercising jurisdiction.

In interstate commerce disputes, the federal court has the exclusive jurisdiction. The power to regulate interstate commerce is the legal foundation for the federal regulations on minimum wage, workers protection, labor union etc. These issues are extremely divisive and controversial, I will write more on interstate commerce in the upcoming blogs.

The jurisdiction resolution among govlets can be broadly modeled after that of our current legal system, except that the border rule must be replaced because govlets do not have well defined territories. The most natural replacement for the border rule is to give jurisdiction to the govlet of the parties involved. For example, in a criminal case, the govlet for the victim should take priority in jurisdiction over the offender's because the offender’s govlet does not have the incentive to prosecute its own citizen for the benefit of "foreign" citizen. If there are multiple victims involved, then all the victims’ govlets have jurisdiction and they can cooperate and decide which govlet has the best chance to bring the accused to justice. Civil lawsuits should be filed in the defendant’s govlet, because that govlet has the jurisdiction to seize the defendant’s assets. For corporate lawsuits, e.g., shareholders sue corporate officers for fraud, the govlet where the company is incorporated should have the jurisdiction; commercial contracts involving parties from multiple govlets should always specify which govlet has the jurisdiction in case of future disputes.

Let’s take a look at a simple example: a govlet A’s citizen robbed a govlet B’s citizen. In this case, govlet B has the priority to prosecute citizen A. Govlet A may prosecute citizen A only if govlet B choose not to (e.g, due to lack of evidence). Let’s add a little twist, and suppose citizen A sold an assault rifle to citizen B, and the trading of assault rifle is legal in govlet A but is outlawed by govlet B. In this case, only govlet B could prosecute, and it can prosecute both parties involved. Of course govlet B doesn't have the jurisdiction if the trade is between two A citizens and doesn't affect B's citizen, property or business.

Inevitably jurisdiction disputes between govlets will arise, in which case the federal government has to step in to intermediate. In the above example of the rifle trade, govlet B could try to prosecute rifle trades between two citizens of govlet A, on the ground that the trades happen in close proximity to a B's citizen thus might adversely affect B citizens' safety and well-being. A’s citizens might then find themselves being frequently harassed by B’s law enforcement for legal firearm transactions, just because there happens to be B’s citizens nearby. In this case, whether govlet B has the jurisdiction purely based on the proximity to its citizen has to be resolved in the federal court. Federal court should establish clear precedence in resolving jurisdictional disputes between govlets, according to factors such as whether the alleged crime happens in public areas or a building owned by a govlet, or in a business registered in a govlet, or within in a residence or business owned by a govlet’s citizen, etc. For example, if the rifle dealing happened in a business incorporated in govlet B, govlet B could have a legitimate claim for the jurisdiction even though no citizens from govlet B are directly involved in the trade. But the jurisdiction claim based only on proximity to its citizen seems to be too outlandish, especially if the alleged crime happens in public area.

As we discussed in previous blogs, the govlets that enforce criminal justice are likely to become highly specialized through competition; and most citizens will choose crime protections from very few number of large govlets because of the economy of scale. Large specialized govlets are likely to have more resources and police powers to fight crime more efficiently, and they are less likely to run into jurisdiction problems. These large govlets for criminal justice are most likely to only offer protection against violent crimes, making them appealing for virtually everyone regardless of their political ideologies. Non-violent crimes, such as prostitution and drug trafficking, will likely be enforced by smaller specialized govlet as fewer people are willing to pay to fight these nonviolent crimes.

The distributed govlet system leads to an extremely diversified and dynamic legal environment and offers much more political freedom than our current governments. I will continue the discussion of many interesting aspects of the govlet’s legal freedom in the upcoming blogs.

6. Healthcare and broccoli

Now you probably want to ask, how does a govlet differ from a corporation? They both have officers, employees, products and consumers (citizens), and both are subject to market competition; why can’t we achieve the same objectives by forming corporations instead of govlets?

The fundamental difference between a govlet and a corporation is that govlet has the power to force certain behavior among its citizens, while a corporations generally can’t coerce their customers. Therefore if certain objectives cannot possibly be achieved through people’s willful cooperation, then we need to form a government (or govlet); otherwise a corporation would be sufficient, such as in the broccoli business. An obvious example for coercion is the crime protection and criminal justice. There are less obvious examples of government services that cannot possibly be achieved without coercion, the universal healthcare is one of them.

The universal health care mandates that affordable health insurance to be made available to everyone regardless of their age and pre-existing conditions. These objectives cannot be achieved if everyone acts on his/her own best interests. The health care costs increase significantly with age and pre-existing conditions, the optimal behavior for an individual is to delay the purchase of insurance until he/she is sick or old; therefore if everyone adopt such a strategy the insurance company would not be able find enough healthy people to average down the overall health care costs to an affordable insurance premium. Private insurance works the best for low probability and high cost events, such as car accidents. The uncertainty is the key factor that incentivize people to voluntarily pay for the coverage because any driver could be caught in a car accident. In contrast, the health care cost for the old and the sick are certain to be expensive, thus there is no economic incentive for the young and the healthy to share the costs. Therefore, the government has to force everyone to pay in order to make universal health care financially viable, which is exactly what Obamacare does.

The main criticism against Obamacare is rightfully the violation of individual liberty when a person is coerced to purchase the health insurance. The existing healthcare system, though does not involve any coercion, has its own problems too. Public nonprofit hospitals are required to treat all emergency room patients regardless of whether they have health insurance, this free pass is a lifeline for the poor who cannot afford the insurance, but it also attracts free riders who could afford but choose not to buy any insurance. These free riders take advantage of the free emergency room care and drive up the medical expense for all.

In the govlet system, the health care problem can be solved without forcing anyone into what he/she does not want. People who support Obamacare can form their own govlet offering the same universal care among themselves through mandatory insurance coverage; people who are strong believers of personal choices can form a govlet that does not require mandatory health insurance, but for the latter to be successful, it has to find ways to go after the free riders and force them to pay their own care; people who believe that the litigation threat is the main driver of the health care cost can form a govlet whose citizens can only sue for limited damage for malpractices, hoping to reign in unnecessary exams and treatments. The beauty of the govlet system is that all the ideas can be tested in practice, and the one that works best would eventually win over most citizens. Even though within individual govlets, the coercion may still be required, but the citizens always have the freedom to migrate to other govlets of his own choice, subject to exit penalties.

5. Choose government services like grocery

Our current governments only offer package deals, you either get the whole package or nothing. For example, every state government comes with the total package of taxation, economic policies, social services, criminal justice, education, court and legal system, environmental regulation etc. If you happened to like the economic policies in Texas, but prefer the criminal justice in New York, then you are out of luck, there is no way for you to get both at the same time.

Rarely anything else we consume in life comes strictly in package deals. We all buy our grocery, clothes, cars and housing separately, it would be extremely inconvenient and wasteful if these things have to be bought as a whole package. But this is exactly what we get from our governments.

In the govlet system, you have the freedom to pick and choose the government services. A govlet does not have to offer the full package as our current governments do; as a matter of fact, there are strong incentives for a govlet to only offer a limited number of services that have go together and nothing more. For example, if a govlet’s objective is to improve social services, such as healthcare, education and retirement benefit, it must also collect taxes in order to fund the social services, and maintain a legal system to prosecute tax evaders. However, the govlet does not need to offer criminal justice as it is not its main political objective and core competency; citizens can get crime protection from other govlets specializing in fighting crimes.

On the flip side, an individual is free to be affiliated with multiple govlets at the same time. Since every govlet comes with certain costs, such as taxes and the risk of being criminally prosecuted for breaking its laws, the individual has very strong incentive to only choose the govlet services he/she really needs and is willing to pay for by money and the possible jail time.

Under such a competitive environment, most govlets are likely to become highly specialized, just like today’s corporations do. There are several reasons for it, first pursuing a smaller number of political goals makes a govlet appealing to more people. For example, a govlet that is pro union and pro gun control is less popular than a govlet that is only pro union because some pro union people are anti gun control. A pro gun control individual can always join another specialized govlet for his gun control agenda, thus there is no reason to bundle them together. By picking and choosing, everyone gets exactly what he/she wants. Secondly, specialization improves the efficiency, for the exact same reason today’s corporations become more and more specialized. Thirdly, specialization makes it easier to evaluate the costs and benefits of govlets, thus helping citizens to make choices and facilitating direct competitions. It is much easier to compare different brands of the same product than packaged deals consisting of many individual products. Fourthly, it gives the individual citizen the power to decide which service to cut in bad times, thus avoiding the usual cross the board budget cut fiasco like the ongoing sequestration. Under a govlet system, the least essential government services will get cut first by the collective decisions of individual citizens. Besides these, another important advantage of specialized govlet is to encourage people to experiment with innovative political ideas by putting them into practice. The start up cost for a small group of people to form a specialized govlet on a particular agenda is much lower than forming a full service govlet.

Full service govlet could still survive because some people will prefer the traditional one-size-fit-all government. The full service government may choose to outsource some of its services to specialized govlet to improve efficiency, through inter-govlet contracts or treaties. For example, a full service govlet could pay a specialized govlet on crime protection for police forces and criminal justice. Similar to the corporate worlds, govlet might find it is to their best interests to collaborate with each other through bilateral and multilateral contracts and treaties or govlet unions. Most of the innovations in the modern marketplace could be copied by govlets, and we have good reasons to believe that many of them will be successful in governing if they are successful for corporations.

4. Change citizenship like cell phone plans

Great care needs to be taken in designing the govlet system so that multiple govlets can compete on a fair ground. We want to protect the citizens' freedom to change their govlet affiliations, however that doesn't mean that there should be no restrictions or penalties.

Let's consider two govlets: govlet A has higher tax rates, and offers excellent social services such as education, retirement and health care etc; while govlet B collects no taxes and offers no services. Both govlets could be successful in isolation, however when putting them in direct competition, govlet A is no longer viable if there is no restriction on citizens' mobility between govlets. Someone can easily take advantage of the competition by staying with govlet A for its education benefits during school age; then switching to govlet B in his working years to avoid paying taxes; then switching back to govlet A for better retirement and health care benefits; then finally switching back to govlet B right before death to avoid estate tax. You can see that he is getting the better end of the deal from both govlets and let others foot the bill.

It is clear that without restricting the citizen's mobility between govlets, the competition among govlets would quickly create a race to the bottom situation and force all of them to adopt the same no tax/no service policies, which defeats the original purpose of preserving the political freedom. Freedom does not exist if there is nothing to choose from. The real question is therefore who should be responsible for designing and enforcing the constraints. Federal government is not a good option because it would inevitably offer a one-size-fit-all solution, that will benefit some but hurt other govlets, i.e, rob Peter to pay Paul. The fairest choice is for each govlet to legislate and enforce its own citizen's exit conditions and constraints. Such conditions and constraints would have to be agreed by the citizen when they join the govlet. Similar practices are already common in private sectors, where a company often offers upfront incentives to attract customers but with hefty early termination penalties attached. The cell phone carrier's package plan is a typical example of such an arrangement.

Govlet could model the exit restrictions after cell phone carrier's early termination penalties. In the example above, govlet A could force citizens to given up 20% of their total assets at exit either as an early termination penalty or as an estate tax. Sounds harsh, but it is still not quite fair because the earning power grows much faster at later years of an individual's career, thus if a citizen choose to exit govlet A right after he/she  graduates college, then there is very little assets for the govlet to claim. A fairer penalty would be a percentage of their future income for certain years, in exchange for the social benefits already received. The actual percentage and the duration can dependent on the duration of benefits received, and the cumulative taxes the citizen already paid. Whether to enforce exit penalty, and in what from and amount are critical decisions that a govlet must choose carefully to match its own economic policies.

The exit penalty may sound coercive but it is not, a perspective citizen must agree to the govlet's exit penalty policies before he can join the govlet, therefore it is coercion-with-your-own-prior-consent. Every govlet should clearly declare their exit conditions in the constitution so that everyone is clear of the deal they are getting into before joining the govlet. The exit penalty is not an attractive feature for a govlet, therefore every govlet has the incentive to minimize the exit penalty in order to attract more citizens. Through competition, we have reasons to believe that the exit penalty will quickly reach equilibrium, which is the right amount to deter enough people from exploiting and abusing the political freedom, and protecting the livelihood of the govlet system.

3. Governments with no boundaries

In America, a state government is almost a sovereign except that it transferred some of its power to the federal government, such as defense, international relationship and money supply. The state governments do compete with each other for citizens; but the high cost of relocation often deters people from moving. In order to create real competitions among state governments, people must have the freedom to form new state level governments, and people anywhere in the country must be able to freely choose and change their state level government affiliations. How to achieve these goals?

A traditional government always has a well defined geographical territory for it to exercise the jurisdiction. Before modern times, the society was less mobile and most people stayed with the same community for their whole life, therefore a geographical territory and people within naturally formed the unit for governing. The conflicts and wars in old times were mostly about fighting for the control of territory and people. Through wars, conflicts and changes of control, a government's territory usually settled along natural geographical borders, such as rivers and mountains, where it is the most effective to organize defense and border control. Physical proximity also minimized the costs for vital government services and functions, such as election, taxation, law enforcement, education, road construction etc. Therefore, a well defined territory has always been the optimal and most economic form of governing, until today.

With today's highly advanced transportation and communication network, I argue that a government no longer needs a well defined territorial boarder; furthermore, a physical boundary could be a limitation for governing. In modern times, we have brought down the borders in all aspects of our lives through the highly advanced and interconnected transportation and communication networks, and as a result people's life have become much richer and productive than previous generations. Most of the government's functions that used to require physical proximity, such as the election, taxation, legislation sessions and court hearings, can now be conducted effectively using modern technologies, such as video conferences, digital identifications and electronic voting. Government services that can't be provided electronically, such as law enforcement, education and health care can be organized centrally and provided through local contractors and vendors, which are paid directly by the governments or through government issued vouchers. The construction and maintenance of public infrastructure can be organized as public traded companies funded by multiple co-operating governments. The private sectors have long developed effective mechanism to provide services to customers all over the world, and the method to pool resources together to undertake huge projects. There is no fundamental reason why any of the main government services are so different that they can't be provided effectively without the geographical borders. The only government function that absolutely requires a geographical border is to keep other governments out, in order to maintain the monopoly power.

The fundamental idea of the new form of governing is to use modern technology to facilitate the free association of people with similar political ideologies, regardless of their physical locations. Once organized, people with similar political beliefs may form their own governments that are not limited by any geographical territories. We refer these borderless government as govlet. The jurisdiction of a govlet is limited to its own affiliating citizens; any citizen in the United States can freely choose and declare his/her govlet affiliations. A govlet has similar powers as our current state governments, it can write and enact its own constitution and legislation and enforce it among their own citizens through its legal system and police forces.  A govlet is essentially a governing by consent body, which avoids the "tyranny of the majority" which has been pervasive throughout the history of the territory based democracy.

Since the govlets are founded by people with similar political ideologies, they will adopt the best policies to implement and advance their political beliefs. Of course nothing prevents people with conflicting political beliefs to form a govlet, but it is unclear why people would want to seek constant and endless confrontations that have crippled our current governments. Under such a system, it is expected that some govlets will have high taxes and good public services; some will have low taxes and poor public services; others will be somewhere in between. The govlet with high taxes and poor public services will lose its citizens to other govlets and will eventually go out of the governing business. Under this new form of government, every person in the country can freely choose his/her govlet affiliation without physically moving, which creates fierce and direct competitions among govlets. Each govlet has to improve its efficiency in order to survive and grow its citizen base, which will inevitably lead to lower taxes and better services for all.

In this new government form, various special interests groups will most likely form their own govlets to advance their special agenda, which is perfectly okay and even welcome. Indeed, every govlet is formed to pursue the special interests of its affiliating citizens, thus every govlet is a special interest group. This system will keep the politics and politician honest, in contrast to our current government where every special interest is pursued in the name of public good. The public good is best served when everyone's freedom to pursue his/her own special interests is protected.

There is every reason to believe that such a competitive free market approach for governing would be much more efficient than our current one-size-fit-all government monopoly. This new form of competing governments is also morally superior because it offers every citizen the political freedom to practice what he or she believes, without resorting to any coercion.

In the upcoming blogs, I will consider many important issues around the govlets, such as the resolution of jurisdiction, implications of changing govlet affiliations, contract enforcement, and the prevention of segregation and criminal govlets etc.

2. When truth is personal, treat it as religion

The truth is universal in natural sciences. Scientists rarely debate their theories, instead they test the theories using objective observations and experiments, and settle with the one that best explains the reality. Politics is about people's behavior, which is by definition subjective, therefore there is neither universal truth nor objective ways to test political theories.

To illustrate this point, let's consider how to objectively evaluate Republican's policies against Democrats' policies. One might reasonably propose the following: Find two nearly identical cities, and let the Republicans and the Democrats each run one of them for 30 years, then we should be able to compare the final results and tell which party's policy is superior, right? Not quite. Before declaring winners, one must first define the criteria for success. Is success defined by the wealth, equality,  people's happiness or less pollution?  Even if we only look at a single measure, for example, the average income, it is still difficult to attribute the success to the ruling party's policy. For example, it may so happen that the economic success of a city is mostly due to random or external events, e.g., the next tech genius like Zuckerberg happens to be born there. Even if we could control and adjust all these random or external factors, the truth is still murky, for example a city's economic success might be driven by legalized gambling and prostitution. Is that still a success?

However, each individual would have a clear preference on which city he or she wants to live given the difference in policies and the corresponding results. If citizens can move freely between the two cities, most of them would be happy living in the city of their choice.  Just like in religion, the truth in politics is personal, not universal.  Paul's heaven can be Peter's hell. Therefore debating politics is like debating religion, the universal truth never comes out (unless one of the gods reveals itself in a dramatic manner) and it serves no useful purposes other than the entertainment values.

In religion, people have long accepted that the truth is personal, and the only practical approach is to respect each other's beliefs and ensure that everyone can freely practice the religion of his own choice. Trying to enforce a single religion or belief system to all the people always ended up with disastrous results in the known human history. Today, most countries protect people's religious freedom, and people of different religions can live peacefully together as long as they don't attempt the forced conversions. Religious organizations compete with each other peacefully based on their teachings and practices, such competition allows undecided individuals to find their personal truth by experimenting with different religions or belief systems. The followers of all religions can all be happy at the same time practicing different beliefs, as long as the choices are their own. Most people, including myself, would fiercely defend others' religious freedom even though we may not necessarily agree with the particular religious teachings.

We can all be in heaven if we practice politics in the same way as we practice religion today.

The fundamental difference between religion and government is that the government always enforces one set of rules to all people, without their unanimous consent. The current two party system is like forcing Christians and Buddhists to come up with one set of religious doctrines that both have to follow, which deprives both parties of their personal truth. There is no surprise that the current system is inefficient as they can rarely agree on anything; and neither side is happy with the results. 

Why can't the politics learn from the organized religion, so that everyone can practice their own political beliefs, and respect each other's rights to practice their own personal truth?  The ultimate political freedom is the right to freely form new governments, and the right for an individual to choose his/her own government associations. A necessary condition to achieve this without splitting up the country, is to strip the federal government of the monopoly on many powers, so that people can freely form new governments and enact laws and regulations that are consistent with their own political beliefs.  It is criminal to deprive a person's religions freedom; and it is immoral to deprive a person's freedom to practice his/her own political beliefs, and subject him to the forced conversion under the current political system.

In the upcoming blogs, I will layout more details of how to redesign our government so that people's freedom to form and choose governments is ptotected. 

1. What's wrong with our government?

It is difficult to find any other institutions that are more universally loathed than our governments. Though often touted as the best government form ever existed, our federal and state governments are extremely complex, bloated and inefficient. Our governments routinely put the special interests ahead of the people and are often caught red-handed in illegal or immoral conducts. The recent incident of Snowdon is a timely reminder of what our government is capable of. Today Washington is caught in a hopeless gridlock of partisan politics and it is very difficult (if not impossible) to bring any meaningful legislation through the complicated maze of conflicting special interests and ideologies. Those bills that did manage to pass are often full of loopholes and earmarks, making their effects in practice highly unpredictable and often harmful. You need to look no further than our current federal tax code for a legislation that is complicated, senseless, full of loopholes and earmarks. Such tax code creates perverted incentives and unintended consequences, e.g., the highly sophisticated tax shelter schemes utilized by Apple is a prime example of how human ingenuity is wasted in the wrong place because of a bad piece of legislation. The current political system needs radical reforms, but fresh ideas have no chance of becoming law because ordinary voters understandably are skeptical and fearful of any dramatic changes from the status quo.

What is wrong with our government? People often blame corrupted politicians and officials, though convenient but that is a very simplistic and counterproductive view. I believe most people in the public service are most likely moral and do act with good intention for the public. The dire situation of our current governments is a sure product of our own political system, which is designed to have low efficiency by the founding fathers, with all the checks and balances in place to prevent the concentration and abuse of the power. The system has worked brilliantly in most of the United States history until in the last 50 years or so. There are many reasons why it no longer works in modern time, I will write about it in the upcoming blogs. For the moment, let's just focus on what is wrong and how to fix it.

If our government were a private corporation, it would have and should have gone out of business. No corporate that consistently operates in low efficiency, produces expensive services and products that are universally hated, and engages in illegal conducts can survive the free market competition, with an important exception of being a monopoly. That is exactly what's wrong with our government.

Our government enjoys the monopoly of many important powers: taxation, legal use of force, legislation and law enforcement, money printing, court and legal system etc. It is true that the governments have monopolized most of these powers throughout the civilized history, but in this day and age with the rapid advancement of technology and the unprecedented equal and free access to information, I argue that there are no longer any good reasons for the government to monopolize these powers. We can design a new form of government based on the distributed power, and having the governments compete to serve the needs of the people. Today there exist limited competition between state and city governments, citizens could move to other cities or states if they don't like the local legislation and government policies. However, such competition largely benefits only the large corporations and wealthy people who can actually afford to move; moving is rarely an option for ordinary people because of limited job mobility and family ties.

In this series of blogs, I will layout the new form of government based on the distribution of power and the free market competition in government services. I will argue that such a government form will bring much needed efficiency and transparency, meanwhile protect the liberty of the citizens to the fullest extent. Since this new government form is founded on the distribution of power, it doesn't need to be inefficient to prevent the concentration and abuse of power. This new form of government is not based on any particular political ideologies: People are free to choose, associate and practice any political doctrines. People with similar political views will group together to write their own legislation and form their own governments, and freely practice their own political doctrine to their hearts' content,  just like how people organize and practice religion today. The new government form is not based on geographical regions like our city or state governments, instead they are based on ideologies and people's free association. Multiple governments will compete with each other to attract citizens, and the governments offering the best protections, services and benefits with the least costs will inevitable attract the most number of tax paying citizens. Multiple competing governments will allow all political ideas to be put into the ultimate test of practice, and they will bring out the best quality of competing ideologies because the citizens affiliated with the same government all share the same political views, thus they will be able to enact and enforce the uncompromised and true version of the laws that fully reflect their political beliefs.

The ideas may sound radical, but I will explain in the upcoming blogs that they are perfectly rational and practical. I hope this can spur some serious discussions on how we can fundamentally reform our outdated political system, and modernize our governing processes.