Chapter 14: Complexity Versus Constitutionalism

Chapter Objectives

After you have studied this chapter you should be able to explain:

1. Two senses in which we might speak of going "beyond" democracy.

2. Why requiring extraordinary majorities to authorize government action contradicts a fundamental concept of democracy itself.

3. The two elements of constitutionalism, and why neither of them by itself can guarantee good government.

4. Why governmental complexity is incompatible with both of the elements of constitutionalism.

5. How taxes and public finances exemplify the dangers of excess complexity.

6. How citizen efforts to conceal or protect income from taxes is paralleled by official efforts to conceal taxes and government expenditures.

7. Why inflation aggravates people's inability to understand how government taxing and spending affects them.

Key Terms

accrual accounting
liability
cash-basis accounting
loopholes
constitutionalism
Truth in Lending Act
depreciation
underground economy
fiscal year
wholesale taxes
inflation

In 1910 Columbia [University] required beginning medical students to be high school graduates, though a two-year college requirement had been announced for the future. . . . The Columbia medical school's library in 1912 contained only 1200 volumes,-- after two generations that number had grown to about 350,000. The periodical literature is now so vast that nobody has enough time to read even the abstracts which are meant to provide up-to-date knowledge of what is being published in more extensive versions . . . . *

CONSTITUTIONALISM: DEMOCRACY PLUS THE RULE OF LAW

There is a widespread belief "constitutionalism means limited government." [Footnote 1] A "constitution" permitting government leaders to do anything they pleased would be indistinguishable from no constitution at all. It is also clear that constitutional government is hard to attain and to retain. Constitutions have been rare in the past. Current trends towards one-party dictatorships in Asia and Africa and military dictatorships in Latin America show few signs of change.

Over a century ago the American political philosopher John Calhoun noted the obstacles to constitutionalism:

There is no difficulty in forming government. It is not even a matter of choice whether there shall be one or not. . . . Very different is the case as to constitutionalism. Instead of a matter of necessity, it is one of the most difficult tasks imposed on man to form a constitution worthy of the name, while to form a perfect one--one that would completely counteract the tendency of government to oppression and abuse and hold it strictly to the great ends for which it is ordained--has thus far exceeded human wisdom, and possibly ever will. Footnote 2

As used by Calhoun, and rather generally in American society today, "constitutionalism" is used as a normative or prescriptive term. The word is used not only to describe a certain state of affairs but also to indicate approval of a country in which that state of affairs exists.

Is Democracy Desirable?

Many Americans identify constitutionalism with democracy. This is natural enough. Democracy is certainly one important element in constitutional government. To repeat Madison's pertinent remark in Federalist No. 51:

A dependence on the people is, no doubt, the primary control on the government. . . .

Government is unique among human associations. It legitimately wields all three types of social power--the sword, the purse, and the pen. The combination of these powers in one organization, while necessary, poses serious dangers. Individuals can protect themselves from disadvantageous voluntary associations by refusing to enter and, in many instances, by withdrawing from an existing one. They can protect themselves against private-involuntary associations by appealing to government for relief. Government is fundamentally an involuntary association. But one cannot seek protection from government for abuses by government.

All government is by some individuals. There is always danger that the rulers will exercise their necessarily vast powers in their own interest and at the expense of the general public. The rulers, wielding the government power that "grows out of the barrel of a gun," may rob people blind.

Democracy gives those who rule an artificial interest in not oppressing the people they govern. Obviously, if the electorate can replace top leaders any time it finds alternative leaders more attractive (or less unattractive), this limits what those who rule can get away with. Democracy does not box top leaders in completely, as we have seen, because of public inattentiveness and because rivals for the job of replacing them may cancel each other out or otherwise fail to pull their act together. Nonetheless, genuine competitive elections do place effective limits on what top leadership can do. Democracy prevents those who govern from doing obvious harm to the basic interests of any majority. It assures that over time the perceived interests of majorities will not be sacrificed for the benefit of the few.

Democracy is clearly desirable. No other form of government can claim even this much. But democracy alone cannot cure all political ills, and we must particularly refrain from equating it with good government. Protecting the majority from bad treatment and exploitation by a minority is fine, but democracy provides no assurance that minorities will not be abused by a majority. A majority may support a decision to exterminate all Jews. A majority may vote military conscription in order to avoid the higher taxes they would otherwise have to pay to recruit a voluntary army. The majority may get at unpopular individuals by supporting bills of attainder or ex post facto laws.

Ills of Democracy

Actual examples of majority-supported atrocities are plentiful. Government treatment of Indians and blacks was long an American scandal. "Relocation" of thousands of Japanese- Americans into camps during World War II was not only tolerated by the majority, but probably supported. Even the Supreme Court of the United States fell uncomfortably into line despite explicit use of a suspect classification based on race. [Footnote 3] And what is there in democracy that would prohibit the following scenario?

By 1983 it became clear that the Social Security system was soon going to go broke. In spite of sharp increases in taxes beginning in the late 1970s, expenditures from the Social Security Trust Fund were escalating even more rapidly than receipts. Reducing benefit levels proved to be as politically unattractive as further increases in taxes. Congress was faced with a serious dilemma.

Early in 1984 a proposal was introduced in the House by its youngest member, a Representative from the state of Kansas. It was swiftly enacted, and went into effect in spite of the veto of the president (a decent man, subsequently hounded out of office as a result in the elections later that same year). The Social Security problem was solved once and for all, and no tax increase has been necessary since 1984.

The Social Security Trust Fund Liquidity Act of 1984 (as it is called) was very simple and straightforward. It provided that whenever projected expenditures from the Fund exceed its income, sufficient pensioners should be put to death, oldest first, to bring payments back into balance with receipts. People not covered by Social Security benefits--government employees, Congressmen--were, of course, not included in the group of people subject to liquidation. And the government was strongly instructed by the new "law" to see that the elderly individuals selected to die for their country be given every courtesy, allowed to select their last meal from a menu including three entrees and appropriate California wines, and given several painless options of methods by which they would die.

What rule of democracy would be violated by such a Social Security Trust Fund Liquidity Act? Assume that a poll finds the Act is approved by 59% of the population, including 95% of all government employees, 80% of everybody under 30, and .08% of people over 70. If we feel that there is something wrong--even outrageously immoral--about such an act, then we must admit that democracy is not sufficient to guarantee good government. Democracy is a necessary part of good government, and only a part. It protects the majority, but it does not protect minorities. Ultimately, every individual is a minority of one. Therefore, no one is secure when we merely have a democracy. The American Constitution admits this. Its prohibition of ex post facto laws and bills of attainder, its free speech clauses, its due process and equal protection clauses--all constitute limits on what majorities can do.

BEYOND DEMOCRACY

Since democracy is not a sufficient definition of constitutionalism or good government, we must look beyond democracy in our search for the ideal. Democracy is rooted in majority decision, and one way of going beyond it might be to require more than a majority in order to make a government decision. A requirement of extraordinary majorities can indeed be found at several places in the American Constitution: it takes two-thirds of the Senate to consent to ratification of a treaty, to convict a government officer in an impeachment trial, and (together with a similar majority in the House) to propose a constitutional amendment. However, requiring more than a majority to decide to do something weights no votes more heavily than yes votes and conflicts with the egalitarian values of democracy. And minorities could be abused as long as the decision rule requires anything less than unanimity. While requiring an extraordinary majority may reduce the problem of exploited minorities, it therefore cannot eliminate it, for to require unanimity would render government impossible. Nobody will consent to sanctions, by definition. But as we have seen, without sanctions there can be no law and without law there can be no government.

The Rule of Law

Rather than going beyond democracy in the sense of requiring larger majorities, we must therefore turn our attention into another dimension. This dimension we have already identified, the rule of law. The rule of law presumes that every individual has a legal right to do anything that is not forbidden by law. It presumes that when sanctions are involved, government can legitimately act only by proclaiming and enforcing laws. If, however, the word law can mean anything that the majority wants it to, absolutely no protection of minorities from arbitrary and outrageous treatment will result from observation of the rule of law. The majority can just make any decision, then decide that this decision is law (though it probably is pseudo-law), and proceed to maltreat the minority with a clear conscience. Law must therefore be defined so as to exclude the imposition of sanctions on individuals selected by those who govern.

Here, then, is the rationale underlying our previous definition of law as general rules of action enforceable by sanctions. A true law must prescribe sanctions against "all who" take the forbidden action. This requirement protects individuals and minorities from government abuse in two ways. First, each individual can decide whether to act in the prohibited way or not. "Punishment . . . is a corollary of lawbreaking, not of law," to reiterate Szasz. [Footnote 4] Second, if the general rule is too intolerable it will not be enacted into law, because it applies to those who enact it too. In a democracy, the necessary majority support will not be forthcoming.

Anatole France once made a very snide remark about law:

The law, in its majestic equality, forbids the rich as well as the poor to sleep under bridges, to beg in the streets, and to steal bread.

It is, of course, true that a given general rule may bother some people less and other people more. Those not desiring to kill anybody are quite unperturbed by laws against murder. But what did Anatole France mean to suggest? What is the alternative to "majestic equality" or, as we have termed it, generality? If discrimination is allowed in laws, if they need not apply to "all who," is it the poor who are likely to be singled out for preferential treatment? The political system in which this could happen has not yet been invented, and political philosophers from Plato to Marx and beyond would howl with derision at anybody naive enough to return a "yes" to this question.

The valid point in France's statement is that the rule of law by itself is not enough to guarantee good government. It is quite possible to imagine general rules which would be extremely obnoxious to most members of the community. A requirement that government impose sanctions only on people duly convicted of violating general rules of action therefore restricts government from moving in some directions but not in others. Likewise democracy prevents government from doing some things, but still leaves immense scope for official abuses. Only when democracy is combined with the rule of law are those who govern boxed in sufficiently to make reasonably good government likely.

The Incompatibility of Complexity and Democracy

Private Complexity. In our private economic affairs, complexity is often regarded as a serious problem requiring government protection of individuals who are unable to cope with it. No doubt this is true. When the Empire State Building was sold in the early 1960s, the contract of sale was 400 pages long. Thirty-four parties were involved in the transaction, and they were represented by more than 100 lawyers. The building sold for $65 million. [Footnote 5] However this transaction is not an example of the complexity in private affairs which is thought to require government protection. The parties had both motive and ability to defend their own interests. They were well-represented by high-powered specialists during the presale negotiations.

Private complexity poses more problems when individuals enter into agreements involving relatively small amounts of money with large corporations. For example, you may purchase an insurance policy on your life, your car, or your house. Although you must be given a copy of the insurance policy (the contract between you and the company), you probably will not read it. If you do try to read it, you are unlikely to understand all of it, even if you are highly literate and broadly educated--which most people of course are not.,

The customer who is unable to evaluate a complex insurance contract himself, may not find it worthwhile to pay an expert to do it for him. Government regulation of the contracts insurance companies can make with their customers is therefore a very plausible response to a real and serious problem. Much economic regulation of other industries has a similar function, as we noted in Chapter 10. The Truth in Lending Act requires that interest rates charged on loans be disclosed according to a standard formula, in order to encourage comparison shopping for favorable terms. Before this Act, many different methods of calculating interest rates made it possible that 6% claimed interest one place might be identical with 12% at another. [Footnote 6] Standards of performance, safety, and competence in an industry or profession can likewise reduce the problems faced by individual consumers in evaluating what they are buying. Similar functions are performed by nongovernment organizations like Consumers Union, Underwriters Laboratories, and the Good Housekeeping Seal of Approval.

It is generally accepted, then, that complexity poses serious problems for consumers of goods and services produced in the private sector of the economy. This is a major justification for government's regulatory activities. But it is the complexity, not its location in the private sector, that is the problem. The location in the private sector allows government action to try to protect us from it, but that location is not the problem. Since complexity is a problem, and since not all complexity is in the private sector, we must face an important but not frequently raised question: Who will protect voters ("consumers" of government) from excess complexity in government itself?

Government Complexities. If individual purchasers of goods and services are unable to choose wisely in the face of complexity, how can these same individuals vote wisely in the face of governmental complexity? In fact, complexity may well be even more frustrating for voters than for consumers. Each voter has less motive to master government's complexities than he does to study the goods he is purchasing. As a voter he has only a small share in the control of government. As a voter he is one among thousands or millions. As a consumer, he is one of two parties to every transaction; and since the transactions constitute voluntary associations requiring mutual consent of the parties, he actually has a veto over each transaction if he wishes to exercise it. Knowledge gained about matters subject to private decision--what car to buy, whom to marry, which church to join, which doctor to go to--is thus worth more to the individual than political information costing him equal time and effort. Although some people may overdo "rational ignorance," about politics, it is easy to see why the quality of public opinion is not very high in the United States (Chapter 10) or anywhere else.

The common denominator between private decisions of consumers and public decisions of voters is simple: it is impossible to evaluate alternatives and act rationally if we cannot understand what is going on. Rational ignorance is still ignorance. Complexity in government must therefore be minimized if democracy is to be maximized.

The Rule of Law Requires Simplicity

The rule of law requires that government impose sanctions on people only for violating general rules of action. As we have seen, this requirement serves several important functions. It protects minorities from especially harsh requirements that the controlling majority is unwilling to impose on itself. It protects everybody by its implicit inclusion of the rule against ex post facto legislation; due notice of the consequences of acting in certain ways must be made available--though ignorance of the law is no excuse. And the rule of law substantially reduces the opportunities for corruption in government, while leaving government adequate power to pursue all of its legitimate objectives.

Governmental complexity gnaws away at the achievement of all three of these purposes. Complexity is a sign that the rules enacted by government are not general. The more complex the rules, the more they are apt to apply different requirements to different people. A single general rule can apply to everybody, but if separate rules pertain to whites and blacks, Jews and non- Jews, men and women, rich and poor, old and young, a great proliferation of pseudo-laws is inevitable. Perhaps the sense of the Equal Protection Clause of the Fourteenth amendment, for which the Supreme Court has been groping for a century, is that we should have the protection against arbitrary and discriminatory government treatment that is provided if all such rules are general and apply to all people.

Complexity in government also conflicts with the requirement that due notice be given to people of their legal rights and duties. If those legal rights and duties are too complicated for the average person to understand, it is not even possible for people to be given due notice of what is required of them. As a matter of justice ignorance of the law is an excuse when there is no way to know what that law is. But American courts have not yet struck down any laws on grounds of excess complexity. On the contrary, laws have repeatedly been declared unconstitutional because they were too general or "overbroad." Footnote 7

Finally, when government and its operations are highly complicated, opportunities for official corruption multiply. Actions that would stand out like a sore if government were simple become obscure or even invisible in the din and confusion. When there is a wide variety of activities going on, a little more variety--even of an unethical nature--fits neatly into the general pattern. Of course a highly complex system of rules could be general in the sense required by the rule of law. But when government is simple, rules must be general. As we have seen, the rule of law requires not only that the laws be general, but that they be understandable, a requirement that is not satisfied by any complicated system no matter how general its rules are.

A Compromise. All too often, to achieve one good thing we must give up other things we desire. This fact is reflected in the terminology of the "guns versus butter" debate, in the economic expression "trade-offs," and in the elements of rational action, A ---> X + Y. But occasionally one good thing can be obtained only by actions that also produce other benefits. Jet engines, originally used for aircraft because they allowed greater speeds than the older piston motors, turned out to offer lower fuel costs and greater reliability as well. So it is with simplification of government. The two requirements of constitutionalism or "good government" are democracy and the rule of law. Simplification in pursuit of one of these elements is not a set-back in achievement of the other, but advances it also. As far as their relationship to complexity is concerned, these elements are mutually reinforcing. Here, for a change, no trade-offs between conflicting desires are necessary. As usual, we cannot claim any great new wisdom in perceiving this fact. James Madison was there first, in Federalist No. 62:

The internal effects of a mutable policy are . . . calamitous. It poisons the blessings of liberty itself. It will be of little avail to the people that the laws are made by men of their own choice, if the laws be so voluminous that they cannot be read, or so incoherent that they cannot be understood; if they be repealed or revised before they are promulgated, or undergo such incessant changes that no man, who knows what the law is to-day, can guess what it will be tomorrow.

TAXES: THE TYRANNY OF COMPLEXITY

How Government Complexity Has Grown

Complexity must be regarded as public enemy number one of both democracy and the rule of law. Americans pride themselves on having a democracy and a "government of laws and not of men." Nevertheless, our government grows ever more complex, in a process that has continued for many decades. The consequences of this unfortunate trend are becoming increasingly clear. Popular frustration is mounting. People know that America is still a free country, that we have competitive elections, and that the "rascals" can be turned out of office by the voters. But people also know that, thus far, nothing has been done to reverse the trends they disapprove of. Some are beginning to fear that in spite of all the rhetoric about democracy the people are basically powerless. Government appears to be nearly out of control. In a country that was not a democracy, people might be able to think that their problems would be solved if only a democracy could be established. But in the U.S. this theory does not hold; we are already a democracy.

Since democratization is not a panacea for America's problems, we tend to search for other cure-alls and for scapegoats. Some people, reluctant to concede that democracy is not enough, prefer to redefine democracy in some radical way and then to denounce "the system" as undemocratic. Others turn their fire on labor unions, multinational corporations, and other conveniently sinister groups which exist in plenty. Still others throw their hands up in horror and exasperation and retreat completely into their private affairs. And indeed, this latter solution makes as much sense as anything if in fact no constructive action can be taken at the public level.

Public understanding of the foundations of our current discontents is undoubtedly blurred by the very gradual way in which our governmental complexity developed. As with the growth of a plant, when things happen slowly enough they cannot be seen. We can only imagine the ruckus that would have arisen if the current government had been imposed abruptly, 30 or 40 years ago. Just think: Overnight, the courts begin intervening in every kind of policy issue formerly reserved for legislatures; licenses are required to engage in work previously open to all; inspectors from a myriad of government agencies including the notorious OSHA--the Occupational Safety and Health Administration--pester businesses and even private residences, claiming the right to barge in without even getting a normal search warrant. Everywhere one turns, one must get permission from some government agency or official: certificates of public convenience and necessity, permission to raise prices, permission to lower prices, permission to sell stock to investors, even permission to go out of business. Overnight, the nation's colleges and universities, public and private, are ordered to hire quotas of various types of people, to balance their student bodies, and to spend millions of dollars equipping buildings for the convenience of the occasional handicapped student. If these things had come all at once, they could not have come; anticipated reactions of the public would have prevented rational leaders from even trying. Bitter medicine is best swallowed in small doses, and the more we take the more we get used to it.

Taxes and Public Finance

We often hear bitter complaints about efforts to conceal or "shelter" income from the IRS. Tax considerations do influence many economic decisions made in the United States. Citizens buy tax-exempt municipal bonds, try to receive as much of their income as possible in the form of capital gains (taxed at half the ordinary rate), or defer "realization" of income until retirement, when they expect to be in a lower bracket and pay a lower percentage. But these are perfectly legal ways of reducing one's tax liability, given the loopholes written into the tax pseudo-laws by Congress. There are also many illegal ways of reducing taxes, especially by dealing extensively in cash rather than by more easily traceable checks. As tax rates go up, so does the incentive to seek legal or illegal reduction of taxes. By some estimates, the real Gross National Product of the United States may be as much as 25% more than governmental statistics indicate, because of the growing underground economy.

Hidden Expenditures and Hidden Taxes

Taxpayers, however, are not the only people trying to shelter or conceal something. Government itself struggles valiantly to conceal the taxes it is raising and the expenditures it is making. To the extent that it is successful in this undertaking, government removes itself effectively from democratic control by the electorate.

Fiscal Years. Two elements completely subject to government control contribute to a general context in which taxing and spending issues are easily confused. One of these nefarious elements is a government fiscal year which does not begin and end on the same dates as the calendar year. Fiscal year 1984, for example, is scheduled to begin on September 1, 1983, and to end on August 31, 1984. It is very easy to become confused about which period of time a government budget is supposed to apply to, since it would be equally logical for a given fiscal year to begin in t e year referred to as it is to end in it. Only when the fiscal year is adjusted to begin on January 1 and end on December 31 will the possibilities for public confusion here be ended. Do not, however, hold your breath waiting for Congress to propose such a reform!

Inflation. The other element that helps confuse the general public about government revenues and expenditures is inflation. Nothing can be more devastating to people's ability to perceive changes in an economic situation than a fluctuation in the yardstick used to measure that situation. We are used to evaluating economic matters--private and public--in terms of money, but the usefulness of dollars for this purpose when their purchasing power is shrinking (or, for that matter, growing) is doubtful. Critics of some spending program can point with alarm to a $5 billion increase in, for example, defense costs over those of last year. But the "increase" may be a decrease in terms of the amount of defense that the "larger" budget can purchase. The real comparison should be with the amount of money that would have to be spent this year to do exactly what was done last year, not with the dollars spent last year.

In private affairs, too, inflation confuses people's ability to see what government programs are doing to them. In the absence to date of viable accounting techniques by which private businesses can adjust their assets and calculated income to reflect inflation, the earnings of private corporations may be badly overstated when the value of money is declining. Perhaps one reason the government has not encouraged "constant-dollar" accounting, in addition to serious technical problems that would arise, is that a lot of people might get very angry if they realized what government spending and taxing was actually doing to them.

No doubt things could be worse. The federal government has not yet gotten into the outright flummery by which some state governments have tried to balance their budgets by one-time shifts in the dates their fiscal years begin and end. Inflation has not yet gotten completely out of control in the U.S., and an understanding of its dangers is not beyond public understanding. If enough people could break themselves of the habit of thinking "a dollar is a dollar is a dollar," inflation would no longer be of any use in confusing the public about what government is doing. In the meantime, we live within circumstances maximizing government opportunities to flimflam the public about financial matters.

Concealed Expenditures

American governments spend a great deal of money that never shows up in the budget. Or it may show up only years after the commitment to expend was made, when it is too late to do anything about it.

Types of Accounting. One of the first things that accounting students run into is the distinction between cash-basis accounting and accrual accounting. In our personal lives most of us are inclined to think as if cash basis is the natural way to think about money. In a given year, for example, we may believe that the following figures describe our financial affairs:

  Wages and other cash income received 
        (before taxes withheld)                     $10,000
  Expenditures
      food, clothing, miscellaneous     $3000
      down payment on house             $6000
      mortgage payments (principal,
        $300;interest, $1,500)          $1800
      taxes (income and property)       $2000
                                      ________
     Total expenditures               $12,800       $12,800
                                                    __________      
     Net deficit for year                           ($2,800)

These figures are interesting, but the $2800 deficit does not tell us anything very important about our overall financial picture. We have lumped together two different kinds of expenditures, those paying for current living expenses (food, mortgage interest payments, and taxes), and those used to purchase something that will be useful to us over a period of many years (down payment and mortgage principal payments). In accounting terms, these latter payments are not expenses at all but merely constitute an exchange of one kind of asset (cash) for another kind of asset (the house) or for the reduction of a liability (the money we owe to the bank on the house).

One step in determining how much it really cost us to live for the year is, therefore, to subtract from the $12,800 total expenditures the $6000 house down payment and the $300 of the mortgage payments, which reduced the amount (principal) owed to the bank. However the resulting figure of $6500 must itself be adjusted upwards because it does not reflect living expenses we incurred for which no cash payments were made. In our case this certainly includes depreciation on the house, the reduction in its value resulting from wear and tear and aging. Assume that for our house this figure is about $600 per year. Since we bought the house on March 1 we owned it for 10/12 of the year, thus incurring about $500 in depreciation expense for the year. Another possible expense not reflected in our cash payments for the year can occur when we purchase a good or service during the year but do not have to pay for it until the following year. Imagine that we were uninsured and had an operation costing $4000 during early December of the year in question. The bills, for which payment is due in 30 days, arrived on December 15 but we had not paid them yet at year's end. The $4000 was certainly an expense of the year in which the operation occurred, and to ignore it in our calculations merely because we had not paid the money out yet seriously-- accountants would say "materially"--understates our living expenses for the year. We must therefore add this liability to our adjusted out-of-pocket payments in order to get a meaningful figure:

    Total cash payments                     $12,800
    Minus portion going to increase 
     equity in house or reduce mortgage
     liability to bank                       $6,300
                                           ____________
                                             $6,500
    Plus depreciation expense on house 
      not reflected in cash payments            500
    Plus liability for December operation     4,000 
                                           ____________
    Actual living expenses for the year     $11,000

Because cash basis accounting can distort the actual picture beyond all recognition, the IRS basically requires businesses to use accrual accounting to determine their net income for taxation purposes. And the American Institute of Certified Public Accountants, through its Financial Accounting Standards Board, requires use of accrual techniques in audited annual reports to the shareholders of corporations and to the general public. (Here is an example of a private effort to help individuals cope with complexity, by requiring corporate financial reports to be in a standardized and meaningful format. The American Institute of CPAs is a private-voluntary association. It thus cannot impose sanctions on anybody, but its members can and do refuse to attest to the financial reports of any corporation that does not conform to "generally accepted accounting principles" as determined by the Financial Accounting Standards Board. This refusal is a withdrawn inducement, not a sanction.)

Once again, however, we encounter the basic question: Quis custodiet custodes ipsos? Who will guard the guardians? The American Institute of CPAs is under constant pressure and supervision from the government, particularly the IRS and the Securities Exchange Commission (SEC). But who will require government to keep its accounts and report to the public in a way that is meaningful and understandable? There is only one answer to this question at the present time, and it is a very depressing one: nobody!

It is not putting the matter too strongly to say that government accounting and financial reporting to the public are a scandal. Any private corporation that took the government's own practices as its model would be apprehended in very short order by the combined legions of the private accounting profession, the IRS, and the SEC.

How the Government Operates. The American federal government operates for practical purposes on a cash basis. Capital investments which will be enjoyed for many years are mixed indiscriminately with current expenses for day-to-day operation of the government. Depreciation is not calculated on government facilities or machines. Perhaps worst of all, huge liabilities for future expenditures are routinely incurred without showing up in the budget or government financial reports. Only the current out-of-pocket costs of employing a GS-15 in the civil service show up in the budget, for example, while the substantial rights that the job-holder is accruing to a future pension are completely ignored. Of course, this is a game that can only be played so long before realities catch up with us. Some city governments have begun to face the problems created by their own employee pension systems.

Not only are billions or trillions of dollars in liabilities incurred without being reflected in calculations of the current costs of government, but many subsidies are granted and paid currently that will never show up as expenditures in the budget at all, now or in the future. Rather than overt expenditures, these subsidy payments take the form of reduced government revenues. In order to encourage all sorts of worthy activities- -employment of the jobless, expansion of investment in industrial plant and equipment, home ownership, private donations to charity--government allows special income tax deductions for certain expenses involved. These loopholes do not show up in the budget either on the expenditure or on the revenue side of the ledger. Accordingly, it is difficult to evaluate them in terms of costs and benefits, and it is particularly difficult for the general voting public to exercise any indirect influence over them.

An even more diabolical form of concealed government expenditures may become more common (if not prominent) in the future. Some of the proposals for national health insurance would not finance it out of taxes paid to the government. Rather, they would require employers to purchase private health care insurance meeting certain standards for each of their employees. Politically, this approach seems to have three major advantages. First, it does not appear to cost the government very much, since the money involved does not show up either as a government revenue or as an expenditure. Second, it neutralizes the private insurance companies, which would lobby intensively against any general government take-over of the health insurance business. Third, to the extent the payments for the compulsory insurance are perceived as a tax at all, they will appear to be paid by employers rather than by the people.

As with the employer's share of the Social Security tax, of course, the money must ultimately be raised either by increasing prices to customers (i.e., everybody) or by reducing wages paid to workers (again, just about everybody). But this is a complicated relationship, made more difficult to perceive by the general climate of inflation within which it takes place. In other words, the increase in consumer prices will merely be an addition to that which would have taken place anyway due to the decrease in the purchasing power of the dollar. And the decrease in the workers' wages will actually appear as a reduction in the wage increases they would otherwise--on average- -have gotten, again thanks to inflation. To sort out these decreases in increases in decreases one practically has to be a CPA, and most voters are not even trained in elementary accounting. It is very questionable whether such financial flimflams are compatible with democracy, which presumes a government that can be understood by the average person.

Concealed Taxes

Concealed expenditures are bad enough. Concealed taxes are even more shameful. How can an electorate control a government whose actions are deliberately calculated to mislead and confuse people?

The finance

The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing. Footnote 8

Withholding Taxes. A great breakthrough in this art was made in the 1930s by Beardsley Ruml, a top advisor to Franklin Roosevelt. Ruml proposed that instead of sending each taxpayer a bill for his annual taxes in one painful sum, government should require employers to withhold a portion of each paycheck and pay it to the IRS on behalf of the worker. The idea was brilliant. With withholding, taxpayers never even see most or all of the tax money they are paying. On the contrary, the average citizen receives a refund from the government because more has been held out of his paychecks than he owes to the government.

As Time magazine has noted, the present income tax system's "salient characteristic" is "the anesthetized paycheck, near painless extraction of dollars. . . . At Treasury, which gets all that money the Ruml system yields, they hail him as the fellow who made big expensive government possible." Footnote 9

Hidden Sales Taxes. A second method of concealing taxes is to impose them indirectly or "wholesale" rather than directly at "retail." A sales tax is direct, and the individual is formally put on notice each time he pays it. First the clerk rings up the amount of a purchase on the cash register, then he adds in the required sales tax. (As long as they remain in the range of 3-6 cents on the dollar, sales taxes may be an effective, painless way of plucking the goose because they are only pennies, a drop in the bucket compared to the price of what is being purchased.) If a tax producing equal revenue is placed instead on the seller or producer of the things bought, however, it simply becomes part of their cost of doing business and shows up as a part of the total price paid by consumers without being labeled a tax. Since producers up and down the line pay all kinds of property and income and other taxes, a substantial part of the price we pay for any good or service is actually taxes. It is a favorite game among economists to try to compute how many different taxes are incorporated in the price of a loaf of bread.

Once the tax is imposed at wholesale, supposedly on the big guys rather than on the individual citizen, there are few limits to what the traffic will bear except for fears of destroying the competitive edge of business in the jurisdiction imposing the tax. So effective are indirect taxes in the U.S.S.R., where competitive efficiency is not a major consideration, that direct visible taxes are strictly nominal. There has even been occasional talk of completely eliminating all taxes. But people might then wonder where the money is coming from to support the Soviet government. Visible and direct taxes, therefore, may be an excellent red herring distracting people's attention from the actual magnitude of what is being done to them.

Progressive Tax Rates. Taxes and tax increases can also be concealed by combining a general background of inflation with progressive income tax rates. If the purchasing power of a dollar is cut in half by inflation, the average person's income will double to make up for this. But when a higher percentage of higher incomes is taken by the tax collector, government revenues will swell even faster than the value of the dollar falls (Table 14-3). The

  

Table 14-3.  Progressive Income Taxes
__________________________________________________________
     Value              Tax               Cash  Purchasing
     of                 rate              left   power in 
     dollar     Jones'  (hypo-    Federal after  1970
     in 1970    salary  thetical) tax     tax    dollars
     purchasing  
Year power     
__________________________________________________________
1970  $1       $10,000   16%      $1,600  $8,400  $8,400
1980  50 cents $20,000   24%      $4,800 $15,200  $7,600

individual whose income has just kept up with inflation thus retains less purchasing power after taxes are subtracted. Only if there is an $800 tax cut will this individual break even and enjoy the same standard of living in 1980 that he did in 1970. A tax cut of any less than this is actually an increase presented in a misleading way in a confusing context.

Inflation as a Hidden Tax. Inflation itself is not just a confusing element in our circumstances. It is also a fourth kind of concealed taxation. A tax can be defined abstractly as any government measure that removes purchasing power from the hands of individual consumers and gives it to government without their consent. Taking some of their dollars, directly or indirectly, is one way of doing this and is what we usually think of as taxes. But taking dollars is not the only way to reduce individual consumers' purchasing power; one can also let them keep their dollars but manipulate the currency so that each dollar is worth less. The technicalities of how this is actually done are beyond the scope of our present discussion. Although this is not literally true, we can think of it as a process in which government just prints more dollar bills when it wants to spend more than it takes in via other taxes. The increased supply of money relative to the goods and services it can be exchanged for then displaces the value of each unit downwards by virtue of the usual supply-demand relationship.

Under these circumstances it is very much in the interest of individual rulers, who love to spend money but hate to impose taxes (in the narrow, overt sense), that people not understand the reasons for inflation. The government finger is often pointed at "greedy" corporations, "money-mad" unions, Arab oil sheiks, bad harvests, and other convenient scapegoats. The most that any of these parties can do, however, is to drive up the price of their own products, and even this can be done only within very strong limits imposed by the market and by the possibility of product substitution. Without government expansion of the money supply, increases in particular prices will always be cancelled out by reductions in other prices and cannot cause an increase in the general or average price level. Still, as in the case of true monopolies, which are always and only created by government action, it is fashionable to speak of inflation as a privately caused problem from which it is government's job to protect us. "Wage and price controls" are thus to inflation as "antitrust laws" are to monopoly, an ineffective remedy based upon a faulty diagnosis of the causes of the problem and serving mainly to confuse the public as to the actual responsibility of government for the problem.

Lamentations

Again, how can the public vote intelligently in its own interest to control the details of a government system that no one understands? Who can understand the Internal Revenue Code, which is more than 2000 pages long? Who has mastered the additional thousands of pages of regulations issued by the IRS in implementing the Code? Who can plumb the depths of the 40,000-50,000 "ruling letters" issued each year by the IRS, as well as its uncountable number of informal advisements to taxpayers? A person who wants to understand what the federal tax law requires may also have to consult the many decisions of the U.S. Tax Court and the Court of Claims as well as those of the District Courts, the Courts of Appeals, and the Supreme Court. How many citizens, or even specialists, can do this?

Even the IRS employees do not understand the law well enough to allow taxpayers to rely on their advice in calculating their taxes. Different IRS agents often give conflicting answers when asked the same question. The IRS does not consider itself bound by such advice; it will not buy "reliance" arguments from taxpayers who have lucked out or shopped around until they get advice they liked. Again, if IRS agents cannot understand the rules they administer as professionals, how can the average citizen-voter or even the average congressman? And how can the electorate react to and ultimately control the decisions of elected officials if they cannot understand those decisions?

It is apparent that as things presently stand in the U.S., although the electorate has the legal right to boot the rascals out on the basis of their decisions regarding taxes, voters are in no position to exercise that right methodically in their own interests. Public discourse on taxes is uniformly unsophisticated and demagogic. As long as the present degree of complexity in taxes is preserved, there is very little that anybody will be able to do about this.

SUMMARY

Complexity in private transactions often evokes government regulation, since consumers may otherwise be unable to act in their own best interests. But this justification for government regulation of business has disquieting political implications. A consumer who cannot evaluate complex products cannot cope any better with governmental complexity when making choices as a voter. On the contrary, information needed to make wise private decisions is usually more valuable than equally costly knowledge needed to vote wisely.

Increasing frustration and the feeling that public affairs are out of control may be due in large part to the monumental complexity of today's government and its policies. The right to vote is worth little to people unable to decide intelligently how to vote. We must recognize that complexity is fatal both for democracy and for the rule of law, the two essential elements of constitutionalism.

QUESTIONS FOR DISCUSSION

1. What are the two elements of constitutionalism? If you were going to live in a country that had only one of these elements, which would you prefer it to be? Why?

2. Explain why complexity conflicts with both elements of constitutionalism. Which element of constitutionalism do you think is more incompatible with complexity? Why?

3. Explain why inflation:
a. reduces the control of the electorate over the government
b. is a tax
C. is an attractive thing for political leaders under present American conditions (including public opinion)

4. What are the differences between cash basis and accrual accounting? Why does government accounting help to conceal its actual costs of doing things?

5. To minimize government expenditures, taxes should be highly visible and painful. On the other hand if we wish to maximize government spending, taxes should be as invisible as possible. But which (if either) of these two alternatives would be in the public interest-minimum spending or maximum spending? Why?

6. Given the present values of the American people, if effective democratic control over government were increased by a reduction in complexity, do you think government policies would be improved? Why or why not?

7. Try to imagine a way in which a government could operate without imposing any taxes at all as defined broadly in this chapter.

8. Would unicameralism in the state and national legislatures be a step in the right direction if we are seeking simplification in government? Why or why not?

9. Would abolishing state, county, city, and special district governments, and concentrating all power in the national government, be a desirable means to promoting simplification? Why or why not?

***************

Footnotes

* Walter Gellhorn, "The Abuse of Occupational Licensing," 44 U. of Chicago Law Review 6 (1976).

1. F. A. Hayek, Law, Legislation, and Liberty, VoL I.- Rules and Order (Chicago: U. of Chicago Press, 1973), p. 1.

2. John Calhoun, A Disquisition on Government (Indianapolis: Bobbs-Merrill, 1953), p. 8.

3. Korematsu v. U.S. 323 U.S. 214 (1944).

4. Thomas Szasz, Law, Liberty, and Psychiatry (New York: Collier, 1968), p. 119.

5. Harold J. Berman and William P. Greiner, The Nature and Functions of Law (3rd ed.; Mineola, N.Y.: The Foundation Press, 1972), p. 623.

6. You borrow $1000 for a year, paying back $88.33 each month for 12 months, a total of $1060. The interest paid, $60, appears to be 6% of the amount borrowed. But the average principal outstanding during the year is only about one half of $1000, since repayment is going on continuously. Hence actual interest rate paid here is about 12%.

7. Consider statements such as "the superficial appeal of the argument that Hanover Shoe should be appealed 'consistently'. . . ." (Illinois Brick Co. v. Illinois, 52 L.Ed. 2d. 729, 1977), and "where there is no clear intention otherwise, a specific statute will not be controlled or nullified by a general one, regardless of the priority of enactment." (Morton v. Mancari, 417 U.S. 551, 1974). See also Bigelow v. Virginia, 421 U.S. 809 at 815 (1975), and Turner v. Department of Employment Security of Utah (423 U.S. 44 (1975)).

8. Time, April 17, 1978, p. 19.

9. Ibid., p. 19.