Acute Angles - Economics Made Easy

by David Fidelman

For years the rich people in this country have been complaining about the income tax.

Taxes are a form of social engineering in which money is taken away from the rich and given to the poor. No matter how rich you are, having over 30% of your highest income bracket confiscated by the government to benefit someone else can be quite disturbing. So they figured out a way to reverse the process and redistribute the money back to the rich. They invented the stock market.

To understand how things work, you have to go back a little way in history. In the old days, if you had a good idea you started a business. If you had a few dollars saved up, you financed it yourself. Or you might borrow from parents and friends, and pay them back out of profits. If neither of these sources of funds was available, you could seek out someone to put up the money for a percentage of the business.

If you had a really unique idea and were able to avoid competition through patent protection or some fortuitous set of circumstances, the business might grow much bigger than when it started. This growth could be financed from profits, or by borrowing money and repaying it from profits, or by letting others invest and share in your good fortune. The value of a successful business would depend on the profit it generated and the return on the purchase price. For example, a business with a $10,000 profit represents a 10% return on $100,000.

There are two ways of making money from a successful business. The owner can take out the profits, or put the profits back into expansion, then sell the business and be rich. All this sounds fine, but there is one big problem. To sell a business for a lot of money, you have to have a customer with a lot of money. And there are not many potential customers with the kind of money you’re looking for. That’s where the stock market comes in.

One day somebody figured out that he didn’t have to sell his whole company. He could sell little pieces of it to people who didn’t have a lot of money. These pieces could be as large or as small as he liked. The buyer shares in the profits and decisions of the company according to how much of it he owns, and he can sell his share to somebody else whenever he wants. He doesn’t own any actual physical part of the business – such as a lathe, a desk, a typewriter, a horse and wagon or a truck. What he owns is a stock certificate confirming his share of the overall enterprise. The original owner, if he does not sell more than 49%, still controls the company and makes all the decisions.

People buy shares in companies for different reasons. Widows and orphans used to invest their insurance money in the telephone company and were able to live on its income. People buy shares in companies in fields with high potential for growth such as technology, oil exploration, pharmaceutical research, etc., in the expectation that their share of a small company will eventually become a share of a very large company.

The idea of buying and selling shares of companies caught on, and exchanges were formed to facilitate this process. Agents, or brokers, became available to connect buyers and sellers, and to negotiate a fair price. Buying and selling shares became the major form of business finance. These days the emphasis is mostly on growth rather than income – people buy in the expectation of selling at a considerably higher price than they pay.

How does this help the rich regain the money the government takes from them in taxes? Mostly the same way the casino always comes out ahead in gambling, or the way the state makes money from a lottery. By convincing people that they have a chance to make a profit on their investment, and from the fact that most people don’t understand simple arithmetic. People believe in the concept of infinity – that no matter how high something is, it can always go higher. Investors who can’t explain what electricity is, are willing to risk a life’s savings in a high-tech company whose product they don’t come close to understanding. To them, science is magic and can create something out of nothing.

Rich people don’t suffer from these delusions. Unless they’re completely clueless, the owners and directors are the first to know when their company is in trouble – when the competition is cutting into their sales, when their patents are running out, and what the long-term prospects are. They know the best time to sell, and incredibly there’s always someone willing to buy at the highest price.

One of the problems with the current system is that only people with extra money are able to buy stocks, and low-paid workers are left out. A new approach is being developed that will also include them. Everybody, no matter how low his income, is subject to a payroll tax to finance the Social Security retirement system. If the rich are able to achieve their goal of having some of these funds invested in the stock market, they’ll be collecting from everybody.

Somewhere in England, Robin Hood is turning over in his grave.