California, China and Belarus
October 04th, 2020
|The world economy has come a very long way from the small-government, unregulated free-market model so celebrated by Adam Smith and other classical economists. Today, even in countries that claim to be committed to capitalism, taxes, monetary policy, regulations and state spending have produced huge distortions. To illustrate how huge, I thought I would compare the economic models of three jurisdictions: California, the high-tech Mecca supposedly a beacon of freedom, China, the state-controlled behemoth that claims to have a new and better economic model, and the universally despised “Communist” dictatorship of Belarus.
Doing business in California
It must be very difficult to be a true capitalist in California. Yes, you have a support system of a myriad of other capitalists around you. And if you start with a remotely plausible business plan venture capitalists will throw money at you. However, actually running a business, as distinct from merely financing losses, is extremely difficult. Real estate costs, both corporate and personal, are extremely high if you are in the San Francisco Bay area. So you begin with a huge cost disadvantage against those of your competitors who are located somewhere else. The most important cost disadvantage, of course, is that you must pay people far more money than they may be worth, so they can afford to live in the Bay area.
High taxes getting higher
High accommodation and staff costs are a natural economic disadvantage; but California also abounds in unnatural ones, entirely contrary to free market principles. For a start, the state has the highest tax rates in the United States, with a top income tax rate of 13%, on top of the Federal 37%, plus a Medicare tax of a maximum 3.8%, for a total of 53.8% marginal income tax rate. The state is in the process of voting to increasing the state income tax further to 16%, which would give a top marginal tax rate of 56.8%, a level at which it becomes barely worth working at all (I speak from experience of the high British marginal rates in the 1970s and 1980s). With the state keeping more than half its richest citizens’ marginal earnings, California’s claim to be a capitalist economy is already quite weak.
It becomes weaker still, when you realize that the state is also likely to introduce a wealth tax at 0.4% per annum, payable on all wealth above $30 million. Now you may think that $30 million is “riches beyond the dreams of avarice”; but you are out of date, at least if you live around San Francisco. $30 million just about buys you an upper-middle-class house in that area, and then you must pay the state property taxes on the damn thing. In any normal jurisdiction, $30 million would be enough to retire on in considerable luxury, but not around San Francisco.
Moreover, 0.4% per annum may not sound like much, but I would remind you that today 10-year U.S. Treasuries yield only 0.67%. That leaves you only 0.39% after Federal income tax (oh bliss, no state income tax), so your California wealth tax is robbing you of 105% of your remaining income – even before you account for inflation’s effect on your capital. Yes, you could put your money in riskier, higher-yielding assets, but those Argentine bonds and Neiman Marcus private equity investments did not turn out so well, did they?
Regulation and more regulation
Then there is regulation. Depending on your business, you will have already found out that U.S. regulation, when combined with that of an “activist” state like California, is among the most user-unfriendly in the world.
German, British or Japanese regulators are well-organized pussycats by comparison. The recent Uber decision means you cannot employ contractors; they have to be full-time employees, with all the costs involved. And heaven forfend you should be in any business with global warming implications – if you’re an offshore oil driller you’re out of luck, and have been since 1969 in terms of getting new leases on state-controlled waters.
And it’s not just the environmental regulations imposed on you, but the effect on you of those imposed on others; California regulations on electric utilities are so severe that the main utility has filed for bankruptcy, and many areas have been subject to brownouts in a recent heat-wave, because the heat-wave happened on a calm night, thus putting all the state’s solar and wind electric capacity out of action. Now I grant you, the early industrialists did not have electricity at all, but if you think California will let you set up a good healthy coal-powered steam engine to solve your energy problem, you’re dreaming!
Then there are the social restrictions. In California, you no longer have free speech, at least not if anyone records you; you will lose your job for even the mildest hate speech. And if you’re self-employed, the Twitterati will still find a way to make your life a misery. You may stay out of prison, but they will still destroy years of your life and millions of your dollars in court cases.
How do China and Belarus look?
Like California, China has restrictions on free speech – you cannot criticize the government, if you want to stay out of jail (in California, you can criticize the government, but there are innumerable other things you cannot say, and it is not always clear in advance what they are). China also has fairly high taxes – a top marginal rate of 45% — though not as high as California.
The main difference is that in China you must include a committee of Party members in your company. They have the right to second-guess all your business decisions. In California, you do not yet have to do this, but the mandatory “diversity officers” and such are getting ever closer to this level of intrusiveness.
Still, there are advantages to China – for one thing, you don’t need to worry about environmental regulation – it’s pretty clear most Chinese companies don’t, as they emit vast quantities of CFCs, for example, a pollutant removed from Western supply chains two decades ago.
Restrictions in Belarus
In Belarus, you don’t have to employ Party members within your company, though you certainly have to clear management decisions with your local Party boss – who may come expensive. As in China or California, you have no rights of free speech. So, there is only a modest differential between the three locations in that respect. Of course, Belarus and China are notoriously not democracies (Belarus has rigged elections, China doesn’t bother having them at all) but then if you’re a Republican living round San Francisco you might as well not have democracy either – none of your local legislators will be dedicated to the things you believe in.
On Covid-19, China has almost certainly falsified its statistics, and given it the opportunity to spread to humanity in the first place, while California has imposed all kinds of niggling restrictions on individual freedoms. On the other hand, Belarus’ president Alexander Lukashenko has suffered from the virus, played ice hockey throughout its prevalence, and recommends sauna baths and vodka as a cure. Advantage: Belarus, I fancy.
Tax-wise Belarus (like its neighbor Russia) is a truly capitalist state. The country has a flat income tax rate of 12%, and even offers a discount to 9% for workers in the tech sector. This is much more important than people think. Both Belarus and Russia are dominated by a few very large companies, mostly in natural resources, with heavy state involvement and part ownership by cronies of the long-term President. They are not very attractive as investments, even where you could invest in them.
However, below the radar screen, where the state is uninvolved beyond local payoffs, there are a large number of small entrepreneurial companies that do well because of the low corporate tax rate (18%) and low individual tax rates on the entrepreneurs who created them.
Belarus is business friendly
Belarus being deeply unfashionable, there are no Western venture capital companies crawling over the country. What’s more, monetary conditions are more favorable for the creation of truly productive small companies than in either California or China. Inflation was 5.2% in the last 12 months and the National Bank of Belarus’ refinancing rate is 7.75% — healthy levels and relationships between the two that we have not seen in the U.S. since the early 1990s.
Since Belarus has a highly educated workforce, especially in technical areas, and very low costs indeed – far below those of even China, let alone California – it is potentially a highly attractive place to start a business, if you can tolerate the local political system and its corruption. Oh, and the power grid works, at least better than California’s.
Belarus is a nasty dictatorship. But so is China; on balance, rather nastier (I prefer rigged elections to none at all). Even California these days is hardly the land of the free that it used to be. However, in terms of economic climate for a local business there is really no comparison.
None of the three countries is a truly attractive free-market environment, but by far the closest to that ideal is Belarus.
The views and opinions expressed in this issue brief are those of the author.