Eliminating the LLC

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Nima at EconomicsJunkie.com points out that we don’t really have a free market if people can damage other’s property and be shielded from paying for those damages with corporations.

I’d like to weigh in with my own two cents.

First, I have to admit that Nima is correct. For instance, if I build a chemical refinery and end up polluting the streams and rivers around that refinery, it stands to reason that I should have to pay for the cleanup plus damages. After all, I am making money from the economic activity. If it ends up that I can’t make enough money from the business and still keep the streams and rivers clean and damages compensated, I shouldn’t be in business in the first place because it is a net loss for everyone.

One of the problems that has always troubled me is that there is a limit to how much damages can be paid out. If a poor guy in an apartment burns down the apartment through his own negligence, you can’t recover the value of that apartment from the poor guy. It simply can’t be done. The same is true for corporations set up to shield the creators and investors from the bad effects of the business.

A possibility is to force everyone (corporation and person alike) to buy liability insurance. That is, make it a law that you simply can’t exist unless you have either the resources available to pay for all the possible damages you can cause (and thanks to modern life, a small group of people can bring down the entire city of New York ala 9.11). Of course, the cost of such an insurance policy would be prohibitive for most people. In order to reduce costs, they would have to ask permission to do anything from the insurance company. Another problem is that insurance companies are just as likely to go belly-up as any other company.

Another possibility is to have government be the insuring agent, writing laws that dictate what behaviors are and are not acceptable, and collecting payments in advance for inherently risky behavior. For instance, the state government could collect money from every oil refinery and set it aside as insurance for when a refinery eventually blows up or leaks into the groundwater. Those refineries that adhere to strict regulations that are designed to minimize the risk of damage would pay less than those who wither won’t or can’t adhere to the same standards. The problem here is that, like insurance companies, government cannot be omniscient and will inevitably slow down progress and innovation that will lead to cheaper, more effective means of minimizing risk.

Another possibility is to redefine what damages are collectible and which ones are not. This has the bad effect of making certain harmful actions protected by law. For instance, if we say that tanners are allowed to pollute so much in the stream near their tannery and no one can claim damages, then we are basically giving a net benefit to tanners at the expense of everyone else.

I can’t really say which way I prefer. If you look at the options objectively, the government option seems the most reasonable, provided it is managed properly.

And what would proper management look like? I believe that if you allow government to write laws and collect taxes against risk for future cleanup and damages, you should allow different areas to have different rules. Companies who engage in risky behavior will then be able to choose where they do business and by their nature will have some influence on how those laws read. But another powerful interest will be the people who live and work in the same area. When they are both able to come to a reasonable compromise, then they will both exist together. Otherwise, you’ll get a situation where people live without the risky behavior, or where people refuse to live because of the risky behavior.

Having the federal government define these rules means that people won’t have much say in the matter and won’t be able to choose where they live based on the rules of the economic system. Having states, counties, and municipalities make these rules seems the most wise so as to allow people the greatest freedom to choose.

We have come full circle now. If government writes laws and collects taxes in anticipation of unfortunate events, then it only makes sense to have one of those laws being a law that allows the creation of entities that shield investors and managers from the risk that the government assumes. In other words, it is natural that those who wish to engage in risky behavior create an entity that is regulated and controlled and moderated by government.

And that’s the system we roughly have today. Granted, the federal government has far more power than it used to in determining what is allowed where. Over time, we should limit the federal government’s role in all of this and give states, counties, and municipalities the greatest freedom. We should also sell off the federal government’s real estate across our country so that it doesn’t, by ownership, have a say in how that land is used, but the states and counties get to choose who they want living in their wilderness.

If a state wants to experiment with a free market that doesn’t involve limited liability corporations, then they should be free to do so. I don’t think any state any time soon will consider this an option, however.

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