Incentives for Caring: A Market for Externalities
We often lament how a business, or government (or even the people we know!) will take actions that profit themselves while leaving destruction in their wake for others to suffer and clean up.
In Economics, those 'external' costs, felt by the rest of us, are called 'Externalities'. When a business can profit without paying those costly Externalities back to those of us who suffer, then the market is blind to that cost; the market misallocates resources. As a result, the most rapacious and callous are those who 'win' the most, attaining dominance which grants them decision-making power over everyone else. This obviously ruins the future; it is NOT the 'Pareto Optimal' perfection we were promised.
So, Economists have struggled to create case-specific, legislated restrictions on businesses, in the hopes of reining in those negative Externalities. By attacking each instance separately, however, they spend immense effort for each small step of progress, and their solutions only address components of larger problems, incomplete. The theme I hope to emphasize most, in contrast:
"We can look at ALL the Externalities as a system, and ask ourselves what institution, protocol, or set of incentives will address all of these Externalities regularly and rigorously as its daily operations?" Essentially, we are seeking to Internalize those Externalities. To illustrate what such a system could look like, I give "A Market for Externalities" as an example of a new investment vehicle for public goods, below.
A Market for Externalities
The estimated benefits spread among the population from Tuberculosis-fighting interventions in developing countries have been observed upwards of $43 for every $1 spent. That's an immense amount of good being done, at a fractional cost! IF ONLY business-investors were able to collect just part of that benefit as a return-on-investment, then they would be happy to fund all the anti-tuberculosis-work! Investors are not inherently evil; most of them are mandated to seek returns for Pensions and Sovereign Wealth Funds, and they're glad to take whatever investment yields the highest returns safely.
So, IF an investor could invest in Tuberculosis-fighting, and the government then collected just 20% of those benefits as a Tax to pay back the investor & operations, that would still be $8.60, for only $1 invested! Operations cost only $1, leaving $7.60 profits to the investor - a 760% return. I have no qualms with investors making money when they help people because there would STILL be $34.40 of benefits held by the people who were once suffering!
That amount of help was not being funded by charity, and charity cannot cover the costs for ALL the wonderful things we might do to help people. Instead, with investors earning a fractional return, then those business-brains and social networks are re-routed from robbing us into helping us. Using a Market for Externalities, we would have strong incentives for investors to fund benefits to those in desperation - because the economy-wide gains are big enough to share.
[Technical Note: What sort of tax to use and the legitimacy of a country's government are separate issues from the core concept. You could mix-and-match with other policies and systems. I'm in favor of a Wealth Tax, myself, to shift the burden toward the group who earns the highest portion of their wealth from public infrastructure. For example, if we take an average US worker's $60K salary and compare it to the wear-and-tear they place on our highways, they incur only a few hundred dollars per year, a fraction of 1% of their income. Jeff Bezos, in contrast, is placing many Millions of dollars of damage onto our infrastructure every time he earns just ONE Million, himself. Bezos' income depends upon our infrastructure to a greater proportion; he should pay more taxes, says me. You're welcome to disagree!]
A Step-by-Step Example
Suppose a researcher published their conclusion that "$1 spent on tuberculosis treatments saves $43" and a business graduate sits down with their virologist friend, saying "I want to be entrepreneurial toward this problem; work with me to draw up a Proposal for tackling Tuberculosis." The two of them post their Proposal onto the Market for Externalities a few months later, where it acts much like a Company's stock.
Once approved and posted onto the Market, the team's Proposal is met with conditional investment (you've probably seen this at work in Kickstarter and similar crowd-fund-apps): "I agree to pay $1,000 into this Proposal, so long as the Proposal reaches its stated minimum funding for operations." That protects investors from some sources of scams and risk, encouraging investment.
When a Proposal meets its funding target and goes into operation, the Government will be watching. Regulators are tasked with checking operations and outcomes, especially community response through interviews, and longitudinal studies. We can't check everything, yet I am sure that when we don't listen to someone, or ignore a certain piece of data, that will tend to bite us in the rear later. Those Regulators form an Estimated Impact... in dollars. (sigh)
[Humane Note: Yes, 'dollarizing' benefits and costs to humans is always erroneous, and it always has a risk of being unethical. However, Canada shows us that flat, dollar-amount pay-outs for damages end up working better for normal people, compared to the US penchant for arguing exorbitant damages only to win them just a fraction of the time.]
With that dollar amount of impact in hand, the Government then pays from fines collected, and finally, the rest is paid with additional taxation. We can choose any percentage of benefits as profits to the investor: higher percentages will encourage more investment and fund projects with smaller multipliers that would have otherwise been passed over, while lower percentages will create a smaller, less active market that focuses on a few high-multiple benefits. (I feel comfortable with a 20% capture: "If investors create $5 of total value for our community, then I'm happy giving them $1 and keeping $4 for ourselves." But there is no 'correct' answer, here!)
The Government sends that entire tax-as-profit to the investors in our original Proposal - the Proposal's operations were already paid by the investors in the beginning. This dodges legislators' opportunities for pork, and it ensures that the people doing the good work are getting paid, without waiting for some bureaucracy to approve their salary! (Sorry for offending 'impact certificates')
Now, $43 worth of benefits to the community became $8.60 in taxes, sent to the investors who put only $1 into the Proposal initially. While stocks normally yield 12%, Tuberculosis treatments would yield 760% as profits, which would normally take your awesome Mutual Fund Nineteen Years to accomplish!
Market Scale
The globe has tens of trillions of dollars sloshing between investment properties and sub-zero Government bonds; investors would leap at the chance for Tuberculosis' 760% returns! If we create such an investment vehicle, the amount of wealth put toward the betterment of the world would be magnified a dozen times over, with only a fifth of that benefit needed to incentivize investors. We keep the rest.
And, considering that those Trillions we spend would then be generating enormous multiples of their own as public benefit. Our combined benefit would rival the GDP of a major nation. This is further multiplied when we consider that the people receiving these benefits will tend to be disadvantaged, such that each $1 they benefit has an out-sized percentile impact on their daily lives.
To give a crude sketch of what those enormous numbers really mean:
If a Market for Externalities is able to yield an average of 50% returns to investors, that's $1.50 back after spending $1, and that $1.50 was only 20% of the total benefit generated: $7.50 in gains, with only $1 spent.
The Big Idea
Without some way to internalize externalities, we will continue to fight each perverse incentive separately. So, I offer this Market for Externalities framework to form a new investment vehicle that will incentivize the movement of global investments into public goods, without waiting for the charity-of-a-few to overwhelm the perverse incentives of so many others, nor for legislators to debate each nuance to their advantage. Pensions and Sovereign Wealth Fund managers would invest in a "Market for Externalities," even though they cannot give it all to charity. Provide those perversely-incentivized investors a productive path, instead. They'll go willingly!
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The Lancet, regarding Tuberculosis' >40x returns-on-investment (though most other interventions are lower returns, and I used TB to show how spectacular the class of investments is, just as someone talking tech would point to Apple and Nvidia; later, I used 1.5x for the whole group of beneficial investments...)