Harberger's Office

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A radical tax system can make cities more vibrant and affordable. Crypto can help.

I spoke to The Times about what companies need to do to bring people back to the office. My interviewer mentioned that some companies are now offering free booze to get people to socialize and love their work. My take:

““If we think of the office now as a social place and not just somewhere to sit facing a screen then it makes sense to have alcohol there, but it’s somewhat lacking in imagination...

People want flexibility in terms of time and also location. Making the office appealing is less about adding more stuff to the office but thinking about the office not as a singular location but a network that enables people to be great wherever they are.

It’s much more of a management challenge, redesigning work itself rather than redesigning an office and that is something that many companies are struggling to come to terms with.”

The reluctance of many (probably most) landlords and tenants to adapt to current market demand means urban land is wasted on empty or sub-optimal offices. All this while millions of people and small businesses struggle to afford an apartment or office in the world's largest cities. The result is a significant drag on the economy and overall welfare.  A related problem is retail stores in central locations that are kept empty while the landlord waits for someone to, one day, pay a very high price for them.

The world needs a better way to force owners to let go of assets and convert them to their highest and best use.

Who's afraid of Harberger Taxes?

While on vacation, Vaughn McKenzie-Landell suggested I read Radical Markets, a book that offers "bold new ways to organize markets for the good of everyone". It has multiple ideas on reducing monopolies, funding and maintaining public goods, and balancing the needs of various constituents in a democratic society.

I am still processing this book. One exciting idea is that of Herberger Taxes. In most countries, people pay property taxes based on the assessed value of their property.  The taxable value is determined by the government (and its service providers) or based on the original price paid by the current owner.

This results in one or more of the following inefficiencies:

• The asset is not taxed based on its actual market value and is either overcharged or (more likely) undercharged compared to its highest and best use.
• Another owner might be able to put the asset to better use (that will benefit more people and society at large). But the existing owner can refuse to sell the asset and hold out until someone offers him an unreasonably high price. The current owner can wait because the carrying costs (the taxes he pays for holding the asset) are lower than what he thinks the asset can sell for. As a result, the asset is idle or not used to its full capacity.
• The above is even more acute in the case of large projects that depend on multiple owners. Large infrastructure and public projects are often delayed because a single owner of a small piece of land stands in the way of redeveloping a larger area. In such cases, the owner of a small asset can hold out a much larger project and ask for a king's ransom in order to sell. The price (to the new owners and the public) ends up being much higher than it should be.

Harberger Taxes, named after the American economist Arnold Harberger, aim to resolve these inefficiencies and create a market in which owners pay their fair share of taxes. Assets can be allocated more freely to their highest and best use — to benefit a more significant number of people.

Harberger's plan relies on two simple principles:

1. Owners decide how much their asset is worth and pay taxes based on that price; and
2. Owners must be willing to sell their assets at the self-assessed price they used to calculate their tax payments.

This mechanism incentivizes owners to pay enough taxes to be able to keep the asset (if they assess it too cheaply, someone else can immediately buy it from them at that lower price). And it enables new buyers who think they can make better use of the asset to buy it quickly and at a fixed price.

There's more nuance to it, but that's the basic idea. Under such a system, the market for office buildings and retail stores (and many other assets) would arguably be more dynamic and efficient. This would reduce the power of existing owners and enable more people to benefit from the opportunities offered by the world's largest cities.

Making better use of urban land would also reduce commuting times which, in turn, would reduce emissions and save plenty of wasted work hours. Crypto can help.

Radical Liquidity

People have been obsessed with "tokenizing real estate" for a decade now. The first big wave of crypto ICOs (Initial Coin Offerings) included dozens and possibly hundreds of startups that wanted to make real estate more liquid by enabling small investors to buy "shares" (tokens) in a building in the same way they buy shares in a company.

The vast majority of these early ventures were not really solving a problem and, often, their approach only created more problems. In most markets, selling a building "on the blockchain" still requires all the usual government and banking paperwork, so the new technology only adds more to the process rather than reduces it. Further, selling tokens usually makes it harder to comply with existing laws and regulations concerning money laundering and "know your customer" (KYC).

The biggest problem was that "tokenizing" a building does not make it liquid. An asset's shares are liquid when enough people are ready to buy and sell these shares at any given moment. Making it possible to purchase shares does not create a liquid market; it simply makes it technically possible for such a market to exist. The biggest challenge in tokenizing a building is in creating a liquid market. This is particularly hard when targeting small investors who only want to buy a tiny "piece" of a building. Creating a liquid market with thousands of buildings and millions of willing buyers is a massive challenge. It is primarily a marketing and regulatory challenge, not a technological one.

And yet, I always thought that one day, crypto and real estate would be able to do something useful together. Many of my students at Hype-Free Crypto are involved in real estate investment and development. My advice to them has always been to figure out how crypto can enable people to do something they want to do and aren't currently able to.

Harberger taxes might point to such a "something." Instead of tokenizing assets to sell them to multiple investors who have very little money, tokens can be used to sell a whole building to one single investor. Under a Harberger tax system, each asset will have a pre-set price, and potential buyers could bid for it and take it over. Standard due diligence can still apply. Most of the transaction costs and paperwork of buying a large building will remain.

But such large transactions will not happen very often, so the remaining friction will not be a deal-breaker (unlike selling tokens to small retail investors who are expected to buy and sell them constantly).

More importantly, tokenizing whole buildings and setting a fixed price on them (based on the owner's self-assessment for tax purposes) will create a more dynamic market to help allocate land to its highest and best use — benefitting society and the environment.

Smart governments can experiment with this mechanism in a small city area or a handful of important buildings. With Miami, New York, London, and other cities vying to become the world's crypto capital, such an experiment would be more interesting and valuable than gimmicks like paying the mayor's salary in Bitcoin.  

Have a wonderful weekend. If you enjoyed this email, please forward it to a friend (and subscribe), and check out my Hype-Free Crytpo course.