Labor is a market distortion, We Need VAT and UBI

There is a pretty serious gap in how the economy functions right now, has been for decades, and we have to close it.

I’m not here to be all “tax the rich” even though I maybe think that’s a good idea too.

I’m not here to say “free markets are amazing” even though I kinda do believe that as well.

This is a simple, mechanical problem that needs fixing, and we fix it with VAT and UBI. If you so much as whisper “that’s socialist” or “you’re defending the bourgeoisie” I will beat you to death with a sickle tied to a demand curve (joking!). By that I mean: please try not to see this as a political post1

I know that me using the terms “VAT” and “UBI” carries a lot of existing assumptions. Each of them individually have significant drawbacks and effects when used on their own. For that reason please don’t carry the usual assumptions surrounding VAT and UBI whilst reading this, the combined system behaves very differently to how you might expect. Regardless, I will anyways cover all the standard conceptions surrounding both such as questions regarding inflation, whether VAT is regressive, redistribution, and changing incentives to work.

Labor is a market distortion

Labor, in economic terms, is a good. People offer their labor (supply) and workplaces create jobs (demand).

Except, the supply of labor is forced.

Imagine a good like iron ore, except every country in the world is maximising it’s output. Policies are designed to mine iron. Mines were shamed if they weren’t maximising their output of iron. Iron was put onto the market regardless of the price because we had to sell as much iron as possible. The economy itself, through consumption, was linked to iron production. If iron production dropped, so did consumption, and the economy would crash.

Now imagine that iron is 60% of the economy. Not necessarily because it should be, but because we forced it to be there.

This is currently the world for labor. 60% of GDP goes to labor. Now, labor is of course still very important to production, but working hours and wages disconnected from productivity 50 years ago. That’s 50 years of market distortion. The possible damage is vast. I believe this is one of the main culprits behind the great stagnation.

Why do we need VAT and UBI?

Because automation has moved labor markets so much that labor can no longer be the only way that people get money to participate in the economy. We have automated away jobs tied to the most basic goods that we need, and the jobs we create are tied to marginal gains in utility that are poor measures of output. Important necessities have been highly productive for decades, meaning a single person employed by say, the agriculture industry, can feed exceedingly many people.

Automation replaces jobs, and yet, the economy is wonderful in that we can and will always create new jobs, we will never run out of work for people. But that is also a runaway train, we need to stop and ask “do we want all those new jobs?”. The economy (and society at large) cannot ever say no, because almost all consumption is driven by labor.

Here are the main reasons we need VAT and UBI:

The mechanism for creating new jobs is not instantaneous, it creates instability proportional to the speed of automation. That instability isn’t just societal or political, it causes consumption to be unstable as well. It’s less and less of a given that an individual can transition into one of the categories of unautomatable work, in so far as those continue to exist, in their remaining lifetime.

Institutions such as education and retirement have been absorbing the loss of labor demand quietly. It’s not just that people are getting older that means we have more retirees, labor demand pressure is also pushing people out. This can be seen in age cohort labor participation2.

We are distorting the economy. Because people must work to live (unless they can find a way to be on welfare or become dependents) wages can’t be set efficiently, and more importantly jobs that maybe shouldn’t exist get forced into being. Some new jobs just, aren’t that useful? Do we really need foodora drivers or escalator attendants?

I am intentionally avoiding using much data in this piece, as I want to focus on the policy itself and illustrating need is an incredibly complex subject. However, if there is one graph that might be most effective in showing that something is going on, it’s this one.

This is an estimated (because data is spotty) participation rate in labor across the entire world. It is asking what percentage of people over 15 are working.

This 10% relative drop over 35 years is not something you can easily hand wave away. I use world data because it has no externalities beyond, say, the covid pandemic which you can see for the 2020 data. Crucially, there is very little we can do to reverse this trend in terms of encouraging employment. Some (~25%) of this is due to an aging world population (but more than 25% if you consider the number of retirees!), another small chunk because young people are studying for longer, but knowing those things doesn’t help us with reversing this. Policies like supporting students studying longer and retirees hide the underlying problem which is that actually, the economy wouldn’t easily find jobs for them even if they did look for work. We need to stop relying on labor as the cornerstone of economic turnover.3

Why UBI?

This one is quite easy: Because it’s the easiest. You get money for existing. Whether you work or not, you are given some money to participate in the economy, to buy the things you want and to signal to the economy which things you want. It’s simple to administer because there are no checks or barriers you need to pass, and it discourages working less than most alternatives because your income doesn’t go down if you start working.

The main reason is that right now working is the only metric by which people get money, and it is too brittle. You can try and develop other metrics, disability, unemployment, medical need, instagram followers, existing wealth, but all of them are more complicated and market distorting than a flat UBI. Do those in your own time, discuss them through politics and study, but fix this problem first.

Why VAT?

This is a little harder but not too hard: Because it’s the mirror of UBI. The UBI will fund consumption, VAT taxes consumption. A 50% VAT raises the price of bread by 50%. The existing economy sitting underneath goes untouched, the base price of bread is set by scarcity and is paid by labor income, as before. The additional VAT on top funds the UBI in a circular fashion. (For questions about saving as opposed to consumption, I talk about that later in “what about saving?”)

Wait the price of bread will go up???

This is where the combined system behaves very differently from each piece individually.

Yes, prices rise and for some goods more than 50% (or whatever the VAT increase is), at least in the beginning. Here’s some examples of some people:

No Income, low, or median income: This person receives the UBI after having not had much money. They can now buy something, at least. Maybe not enough to live off, but more than before even though everything is now more “expensive”.

Fairly high income (in the USA, this is someone at the upper 30% of income, everyone in the 70% below is case 1): This person was making good money, from benefits or working or whatever, doesn’t matter, but they find that the UBI they receive is completely eaten up by the increased VAT of all the things they used to buy. For them their life is exactly the same in terms of how much of their income they spend on stuff, and they largely don’t notice. Their savings have eroded somewhat though as they are smaller in relation to both their income and expenses (more on that later).

A lot of income: This person finds that the UBI is not enough to cover the increase in price for all the nice things they used to buy. They have two options, either to decrease their spending, or spend their savings. They probably still buy bread because well, that’s a necessity. Maybe they buy fewer luxuries though. Their savings, assets, stocks, of which they likely have a lot, have eroded a lot.

So, yes, this is technically a form of redistribution. Buying power is being transferred from the rich, to the poor. However:

Redistribution isn’t the point of this system.

The system isn’t designed with the goal of redistribution, it’s just that if you want to get away from the metric of labor, what metric would you otherwise use? Even distribution is the only one that isn’t exceedingly difficult to calculate and implement.

The point of this system is to adjust for the fact that the nature of what jobs can be done is changing. Physical labor, the kind that almost anyone can do, is mostly automated away. Other forms of labor require training that not everyone can obtain or learn, or takes years. Those jobs are in jeopardy too now, since regardless of what you think about AI it is able to do cognitive tasks to some meaningful degree.

That’s not to say we can just wait for mass unemployment before saying “maybe now not everyone needs to work!” because the economy will almost always be able to create new jobs, and that will not save us. Those jobs chase marginal utility over marginal cost, i.e something that wasn’t worth doing before but now is. However, the speed of automation makes this system imperfect4, and the jobs we are creating at the frontier of utility either do not employ many people, or they are very low marginal utility.

People just get money? Won’t people just stop working?

Yes, but not that many. Firstly, costs have risen because of the VAT, for many the UBI is mostly eaten by this increase. Only those that make very little doing a job they hate may choose to quit their job. Secondly, keep in mind that most people actually don’t like doing nothing. Right now, struggling to cover costs with a meager salary means you stay busy hunting for work or working. With support from a UBI people have opportunity to learn, obtain skills, try new things that actually in turn may contribute back to the economy.

Is this printing money? Won’t we get massive inflation?

We aren’t printing money if we set the UBI to be what the VAT takes in. We then also do not get massive inflation from rising demand because prices have already risen mechanically due to the VAT. This is by design, demand doesn’t actually rise that suddenly or that much because most peoples buying behaviour hasn’t changed much. However, a few points are worth mentioning:

It obviously feels like inflation because prices have jumped, but because the VAT directly funds the new cost it’s not quite the same as inflation we are used to. Whoever calculates the national CPI will have some extra work to do constructing an index that excludes it the new VAT price increase5. It also is inflation in terms of eroding savings and assets.

As mentioned, demand for luxuries may drop and for some necessities may rise since there is a component of redistribution. This will drive some inflation as the economy readjusts to produce more of some things and less of others.

Because of that slight rebalancing going on this is still something you do slowly. If you want a UBI of 40% of median income, you want to raise VAT and UBI in monthly steps, over a period of years.