The Captured Economy

1. The American Dream is Rigged: Slow Growth & High Inequality

The combination of slowing growth and rising inequality has inflicted a double whammy on Americans’ economic prospects.

A Fading Dream. The American dream of upward mobility is receding, with only 50% of 30-year-olds earning more than their parents did at the same age, down from 92% in 1970. This decline is fueled by a painful combination of sluggish economic growth—averaging just 1% annually this century—and soaring income inequality, where the top 1% now captures 18% of total income, double its 1979 share. This economic malaise erodes public trust, fostering pessimism and opening the door to populist demagoguery.

Beyond Market Forces. Traditionally, economists attributed rising inequality to market forces like technology and globalization, suggesting a "big tradeoff" between equity and efficiency. However, this book argues that the economic game is "rigged." Elites actively manipulate political rules to hoard opportunity and generate wealth for themselves, even as living standards for most stagnate. This "folk theory" of inequality, embraced by both Sanders and Trump supporters, points in the right direction.

The Captured Economy. This rigging stems from "regulatory capture," where private industries co-opt government power for their competitive advantage, creating a "captured economy." This favoritism exacerbates inequality by redistributing wealth upward, while simultaneously stifling competition and dynamism, leading to slower growth. By addressing this regressive redistribution, we can achieve both greater growth and a more equitable society, resolving the paradox of our current economic predicament.

2. "Rents" Fuel the Captured Economy, Not Just Free Markets

The simultaneous occurrence of sluggish growth and spiraling inequality presents us with a paradox.

Defining Rents. In economics, "rent" refers to excess payments to a factor of production due to scarcity. While natural scarcity (like prime land) or innovation (temporary monopoly profits) can create benign rents, "rent-seeking" specifically denotes business activity that increases profits by distorting markets, often through government policies that create artificial scarcity. This is the "dark side" of capitalism, where the invisible hand degenerates into the grasping hand of crony capitalism.

Evidence of Rising Rents. Several indicators suggest a surge in these "bad rents" across the U.S. economy:

• Corporate Profitability: Post-tax profits as a percentage of GDP have climbed from 3% in the mid-1980s to over 11% by 2013.
• Firm Inequality: Returns on invested capital are increasingly concentrated among the most profitable firms, with the 90th percentile skyrocketing from under 30% to over 100% in recent decades.
• Tobin's Q: The ratio of market value to tangible assets has risen, indicating an increase in intangible assets, which can include government-created barriers.
• Industry Concentration: Three-fourths of nonfarm business sectors saw increased revenue share for the 50 biggest firms between 1997 and 2012.
• Declining Business Dynamism: New business formation rates have fallen, and the fastest-growing young firms are not growing as quickly as they used to, suggesting suppressed entrepreneurship.

Stifling Growth, Redistributing Upward. Regulatory rents interfere with "creative destruction," the process by which new firms and ideas displace old ones, hindering innovation and resource reallocation. They also misdirect entrepreneurial energy from productive innovation to negative-sum rent extraction. While some regulations can redistribute downward (e.g., minimum wage), recent decades have seen a clear shift towards policies that primarily benefit the well-off, often by creating rents for skill-intensive industries that translate into higher stock prices or inflated wages for highly paid employees.

3. Finance: Misregulation, Not Deregulation, Drives Instability and Wealth

Our contention is not that the financial sector is overregulated but rather that it is misregulated.

Ground Zero for Crisis. The financial sector, responsible for the worst economic crisis since the Great Depression, is a prime example of how misregulation fuels both instability and inequality. Financial crises are devastating for growth, with the 2007-09 crisis costing over 100% of current GDP. Yet, financial executives and professionals constitute a disproportionate share of the top 1% and 0.1% of earners, highlighting massive wealth concentration.

Subsidizing Debt and Risk. The problem isn't a lack of regulation, but rather large, destabilizing government subsidies for debt financing and mortgage lending. These include:

• Federal Reserve's Discount Window: Emergency liquidity for distressed banks.
• Federal Deposit Insurance: Protects depositors, removing incentives for them to scrutinize bank risk.
• Implicit Bailouts: The "too big to fail" doctrine, where the government repeatedly intervenes to save large institutions, artificially lowers the risk of lending to highly leveraged firms.
  These subsidies create "moral hazard," not by encouraging conscious recklessness, but by insulating creditors from risk, allowing financial institutions to accumulate excessive debt without market consequences, making the entire system fragile.

The Mortgage Credit Explosion. The growth of the U.S. financial sector, particularly in household credit, was driven by securitization, a government-nurtured innovation. Fannie Mae and Freddie Mac, government-sponsored enterprises (GSEs), developed and monopolized mortgage-backed securities, implicitly backed by federal guarantees. Political mandates for affordable housing pushed GSEs to buy riskier loans, and lax capital requirements (Basel accords) incentivized banks to load up on mortgages. This led to a collapse in underwriting standards, inflating the housing bubble, and ultimately, the 2007-09 crisis. Despite this, the government's role in mortgage securitization has only grown post-crisis, with GSEs backing up to 80% of new mortgages.

4. Intellectual Property: Overprotection Stifles Innovation and Concentrates Riches

The problem is that IP protection also imposes costs, not just on consumers who have to pay higher prices for copyrighted and patented goods, but also on other artists and innovators.

The Silent IP Revolution. Once a modest area of law, U.S. copyright and patent protections have undergone a radical, ill-considered expansion since the 1970s. Copyright terms have lengthened (to life plus 70 years), formalities dismantled, and enforcement escalated (criminal prosecutions, DMCA anti-circumvention provisions). Patent law, reshaped by the Federal Circuit, now covers software and business methods, leading to a nearly fivefold increase in patents issued annually. This "silent IP revolution" has created a densely regulated world for IP-intensive industries.

Elusive Benefits, Hidden Costs. The utilitarian argument for IP—that it incentivizes creativity and innovation by granting temporary monopolies—is surprisingly weak.

• Creative Expression: Despite declining effective copyright protection (due to digital file-sharing), the supply of new music, movies, and books has soared, driven by lower production costs and non-pecuniary motivations.
• Technological Innovation: Many firms innovate without patents (e.g., open-source software, Tesla giving away patents). Studies show little evidence that stronger patent protection boosts overall innovation or R&D.
  Instead, IP protection imposes significant costs: higher prices for consumers, slower diffusion of new technologies, and "patent thickets" that hinder "downstream" innovation by requiring steep licensing fees or blocking new products entirely.

The IP Inequality Machine. The current IP regime is highly effective at concentrating wealth. Monopoly power from copyrights and patents encourages industry concentration (e.g., a few media giants, "Big Pharma"), inflates corporate profits, and exacerbates "winner-take-all" markets. This translates into soaring wealth and incomes for shareholders and highly skilled employees in these sectors, contributing significantly to high-end income and wealth inequality. The moral case for IP, based on Locke's labor theory, is also flawed, as current laws often restrict individuals from using their own original works if they build on existing, protected ideas, effectively depriving them of the fruits of their mental labor.

5. Occupational Licensing: Barriers to Entry for the Many, Windfalls for the Few

Occupational licensing may not offer much in the way of consumer protection, but it succeeds admirably as protectionism, shielding incumbent firms from competition and thereby boosting their incomes at consumers’ expense.

The Licensed Economy's Rise. While private-sector unionism declined, occupational licensing surged, now covering almost 30% of U.S. workers, up from 10% in 1970. Over 1,100 different jobs, from doctors and lawyers to cosmetologists and florists, require a government license in at least one state. These requirements, often imposed at the state level, vary wildly in stringency and scope across states and occupations, suggesting arbitrary rather than consumer-protection motives.

Protectionism, Not Protection. Despite claims of consumer protection, empirical studies find little to no link between licensing and improved service quality. Instead, licensing acts as protectionism, boosting wages for licensed workers by an average of 18% by restricting supply. This inflates prices for consumers (costing $203 billion annually) and creates a "deadweight loss" of $40 billion in lost output. More critically, it stifles entrepreneurship and innovation, as new businesses (often the source of new ideas) are impeded by entry barriers. The rise of ridesharing apps like Uber, despite fierce resistance from licensed taxi industries, vividly illustrates how licensing thwarts innovation and consumer benefit.

Exacerbating Inequality. Occupational licensing disproportionately harms the less advantaged while enriching the affluent. It reduces total employment by up to 2.85 million jobs, particularly for less-skilled workers and ethnic minorities, and disqualifies many with criminal records, regardless of relevance to the job. Licensing also hinders geographic mobility, trapping individuals in areas with fewer opportunities. Conversely, it inflates compensation for high-status professions like doctors, dentists, and lawyers, who are heavily represented in the top 1% of earners. This "upward redistribution" makes occupational licensing a significant driver of income inequality.

6. Land Use: Zoning Inflates Housing Costs, Blocks Opportunity, and Exacerbates Inequality

The inability of millions of Americans to move to where opportunity is puts a huge brake on economic growth, and constrains the historic engine of economic mobility provided by geographic mobility.

The Strangled Urban Housing Market. Zoning and other land-use regulations, initially intended for orderly development, have evolved into powerful tools for rent extraction, especially in dynamic, high-growth U.S. cities. Historically, housing supply responded to demand, but since 1970, this process has stalled. House prices have soared relative to construction costs, particularly in coastal cities like San Francisco (up 270% vs. 3% decline in costs), while new construction rates have plummeted. This divergence is not due to land scarcity, but to a "regulatory tax" imposed by increasingly restrictive land-use controls, creating windfalls for existing homeowners.

Zoning Out Economic Growth. These local restrictions have profound national consequences. Cities offer "economies of agglomeration"—benefits from concentrated populations like reduced transportation costs, deeper markets, and "information spillovers" that drive innovation and human capital accumulation. High-productivity "human capital hubs" (e.g., Seattle, San Jose) should attract workers, but restrictive zoning artificially inflates housing costs, deterring migration. This "flight from opportunity" means less-skilled workers, who stand to gain the most from moving to these high-wage cities, are priced out, exacerbating geographic inequality.

A Staggering Toll. The spatial misallocation of labor due to land-use restrictions has reduced total U.S. economic output by an average of 0.3 percentage points annually, making the economy 13.5% smaller than it could be. The highly restrictive policies of just three cities—New York, San Francisco, and San Jose—alone account for a 9.7% reduction in national output. Beyond growth, zoning deepens inequality: it transfers wealth from renters to generally wealthier homeowners, contributes to residential segregation along ethnic and socioeconomic lines, and hinders geographic mobility, which is a crucial pathway to upward social mobility.

7. The Politics of Rent-Seeking: Why the Powerful Always Win

Concentrated benefits and diffuse costs go a long way toward explaining many of the outcomes described in the preceding chapters.

The Tyranny of the Organized. Rent-seeking is an inherent defect in democracy, rooted in Mancur Olson's logic: concentrated interests (those with much to gain or lose) are far more likely to organize and influence policy than diffuse interests (who bear small, dispersed costs). This organizational imbalance means that even well-intentioned politicians often lack the information or political pressure to act in the broader public interest. When this dynamic repeats thousands of times, government becomes primarily a servant of the organized, leading to "demosclerosis" and economic stagnation.

Wealth as a Force Multiplier. Regressive rent-seekers, by definition, are often wealthy. Their substantial financial assets amplify their political power, allowing them to invest heavily in lobbyists, lawyers, universities, and think tanks. These resources enable them to dominate the information flow to policymakers, muddying issues and making it difficult for opponents to challenge their self-serving claims. Even without direct campaign contributions, this resource advantage ensures their voices are heard and their interests prioritized.

Spiky Politics & Agenda Control. Political activity is "spiky"; moments of public attention are rare and fleeting. Rent-seekers exploit this by operating in the shadows, but when public outrage erupts (e.g., after a financial crisis), they can still influence outcomes. If no well-vetted alternatives exist, policymakers may adopt superficial reforms that appease the public without enacting real change. Once the spotlight fades, the organized wealthy can claw back lost ground, as seen in the post-Dodd-Frank lobbying efforts that diluted its impact.

8. Informational Asymmetry & Policy Image: The Hidden Tools of Capture

To be successful, rent-seekers need to do a convincing job of wrapping their claims in the mantle of the public interest.

Informational Bias. Modern government is information-saturated, yet policymakers are primarily consumers, not producers, of information. Lobbyists exploit this by providing "legislative subsidies"—valuable information and labor—that shape policy decisions. This creates a powerful bias, especially when government's internal capacity to generate its own expertise has declined. Policymakers, fearing "sins of commission," are susceptible to lobbyists' warnings of dire, traceable consequences from unfavorable policy changes, making it hard to challenge complex issues like financial instruments or intellectual property.

The Power of Policy Image. Rent-seekers don't just rely on money; they cultivate an attractive "policy image" that wraps their self-interest in public benefit.

• Occupational Licensing: Doctors and dentists claim to protect consumers from "quacks" and uphold "professionalism," leveraging their trusted reputation.
• Intellectual Property: Entertainment, tech, and pharma companies are seen as "golden eggs" of innovation, essential for economic growth, appealing to both left (creative class) and right (property rights).
• Finance: Despite the crisis, finance projects an image of essentiality to economic growth, with "rocket scientists" and "masters of the universe" whose expertise regulators defer to, fearing threats to "American competitiveness."
• Home Ownership: Subsidies for mortgage finance and restrictive zoning benefit from the universally positive image of home ownership as the "American dream."

Affluence and Affinity. Beyond specific policy images, affluent rent-seekers benefit from shared social ties and cultural milieu with policymakers. They are often friends, neighbors, and business colleagues, creating a reservoir of common ground and trust. This "cultural capture" means policymakers are more likely to defer to their judgment. Furthermore, wealthy rent-seekers are often geographically concentrated (e.g., finance in New York, tech in Silicon Valley), making support for their interests a matter of "constituent service" for local politicians, who then wield disproportionate influence within their parties.

9. Kludgeocracy: How Indirect Government Policies Create Rents

Trying to get a dollar of government for only fifty cents, by “leveraging” the private sector, usually produces very large rents...

The American Way of Governance. Americans demand similar government services to other advanced nations, but our political system often delivers them indirectly, through complex, roundabout approaches. This "kludgeocracy"—a term describing clumsy, inelegant, and often inefficient policy designs—is driven by anti-statism, divided government, and funding difficulties. Instead of direct, transparent solutions, policymakers opt for indirect methods that funnel resources through the private sector, creating ample opportunities for rent-seekers to skim off the top.

Leaky Buckets of Social Provision. This indirection creates "leaky buckets" of social provision, where intended beneficiaries receive less than the full value of the subsidy, and private interests capture the difference as rents.

• Housing Policy: Instead of direct down payment assistance, policies like the mortgage interest deduction and deferred capital gains taxes disproportionately benefit wealthy homeowners and the financial institutions that provide mortgages. The elaborate schemes for subsidizing mortgage finance, from the S&L industry to securitization, created massive rents for bankers.
• Retirement Savings: Reliance on 401(k) plans as the backbone of retirement savings generates large fees for plan administrators and asset managers, while skewing benefits heavily towards the top 20% of taxpayers. A simpler system, like the federal government's Thrift Savings Plan, could eliminate most of these financial rents.

Preserving the Status Quo. Despite generating huge social waste and risks, these policy kludges are politically resilient. Their indirect nature makes the rents less visible and harder to politicize. Conservatives often tolerate them because they don't appear as "big government," while liberals accept them as the price of any government response to social problems. This bias towards indirect, rent-generating policies ensures that wealthy rent-seekers continue to exploit the system, perpetuating upward redistribution and economic inefficiency.

10. Rent-Proofing Democracy: Rebuilding Deliberation and Countervailing Power

Reducing opportunities for rent-seeking requires some workable response to the collective action problem that thwarts the organization of all diffuse interests.

The Need for Deliberation. Reversing upward redistribution requires "rent-proofing democracy" through more effective, critical deliberation at multiple levels. This means:

• Public Mobilization: Sufficient public engagement to bring issues to policymakers' attention and prevent them from enriching concentrated interests in secret.
• Balanced Information: Ensuring policymakers receive comprehensive information from multiple sides to fairly assess claims.
• Equitable Venues: Crafting policies in institutional settings that do not grant preferential access to financially or organizationally advantaged interests.
  These reforms aim to reorient institutions away from favoring narrow interests, making the policy process more responsive to the broader public.

Subsidizing Countervailing Power. Given the inherent collective action problem for diffuse interests, a crucial strategy is to subsidize "third-party support"—funding from wealthy individuals and foundations for anti-rent-seeking organizations. Examples like the environmental movement (Ford Foundation) and education reform (Walton, Gates, etc.) show how sustained philanthropic investment can shift policy debates and outcomes, even against entrenched interests. While challenging to find philanthropists eager to attack the rents of their peers (doctors, lawyers, financiers), the heterogeneity of the wealthy means some may act for ideological reasons or because rent-seeking harms their broader interests (e.g., high housing costs for tech companies).

A Long-Term Investment. These philanthropic efforts must be patient and sustained, building an organizational ecology for policy change over long periods. This involves funding research, supporting litigation, backing grassroots organizing, and influencing policymaking venues. The goal is to create a political marketplace where the claims of rent-seekers are consistently scrutinized and challenged, forcing them to justify their actions in plausible public interest terms, rather than relying on institutional inertia and informational dominance.

11. Empowering Government's Brain & Changing the Rules of the Game

Making Congress more deliberative, and less subject to undue influence, is a matter of making it smarter and more independent of the interests trying to bend it to their will.

Fortifying Government's Capacity. To resist lobbyists' self-serving claims, policymakers need to be less dependent on them for expertise. This requires fortifying the internal capacity of legislatures, starting with Congress. Currently, congressional staff are often young, under-resourced, and prone to cycling into lobbying, making them reliant on outside interests for information. Professionalizing staff by increasing salaries, creating generous pensions, and concentrating resources on merit-based committee staff (modeled after the Congressional Budget Office) would build stable, expert capacity, making it harder for rent-seekers to dominate the informational landscape.

Changing the Rules of the Game. Beyond internal capacity, structural reforms to policymaking processes can tilt the playing field against regressive regulation:

• Central Policy Clearance: Extend rigorous cost-benefit analysis and central review of regulations (like OMB's role) to state governments, and require distributive analysis to highlight rent-creating policies.
• Empowering Competition Agencies: Give the Federal Trade Commission (FTC) more resources and authority to challenge anti-competitive state licensing boards and federal regulations, introducing authoritative counterweights to insulated decision-making.
• New Authoritative Bodies: Create independent commissions (e.g., a "Financial Regulatory Commission" or an IP review commission) to provide impartial, expert analysis of rent-creating policies, free from industry influence.

Reforming Venues and Processes. Shifting policymaking to less obscure, more deliberative venues is crucial.

• Land Use: Implement municipal zoning budgets or move control to state authorities with broader perspectives, countering local "NIMBY" (not in my backyard) opposition.
• Intellectual Property: Eliminate the exclusive jurisdiction of the U.S. Court of Appeals for the Federal Circuit over patent cases to reduce its susceptibility to capture by the patent bar. Resist including rent-creating IP provisions in future trade agreements.
  These changes would force rent-seekers to openly present their arguments and build broader coalitions, rather than relying on institutional inertia and specialized access.

12. Judicial Review: A "Liberaltarian" Path to Economic Justice

Any serious attack on upward-redistributing rents will need to enlist the power of the judiciary, especially to take on policies at the state and local level.

Judicial Pushback. Given the pervasive and deeply ingrained nature of rent-creating regulations, particularly at state and local levels, judicial review is essential to provide an institutional counterbalance. This can occur through:

• Statutory Interpretation: Judges can reinterpret existing copyright and patent laws to better align with their constitutional mandate, potentially rolling back misguided expansions. Educating judges on the dysfunctions of current law could foster new doctrines.
• Antitrust Immunity: Clarifying rulings that narrow the "state action" doctrine (which grants antitrust immunity to state licensing boards) would limit their capacity for anti-competitive mischief, as seen in the Supreme Court's North Carolina Board of Dental Examiners v. FTC decision. This encourages meaningful oversight by elected officials and less captured boards.

Egalitarian Lochnerism? A more controversial approach involves striking down rent-creating regulations on constitutional grounds, moving beyond the post-1930s judicial quietism that avoided "Lochner era" activism. While progressives often criticize judicial intervention in economic policy, the Fifth Circuit's ruling against Louisiana's casket sales restrictions (finding economic protectionism not a legitimate state interest) suggests a potential path. This "middle ground" would target baldly protectionist and anti-competitive rent-seeking without undermining the broader regulatory state, potentially through state constitutional law or novel applications of administrative law.

Administrative Law as a Tool. Legal scholar John Blevins proposes using administrative law to scrutinize licensing restrictions:

• "Hard Look" Review: For municipal regulations (e.g., taxis, AirBnB), apply the "arbitrary and capricious" standard.
• "Clear Statement" Rule: For state agency interpretations of licensing laws, reject expansions not explicitly contemplated by statute.
  This approach avoids direct legislative overruling while creating opportunities for meaningful scrutiny. By applying narrow interpretations of licensing authority, courts could force advocates to seek explicit legislative approval for expansions, shifting the institutional bias and fostering greater deliberation. This "liberaltarian" approach, combining anti-statism and egalitarianism, offers a cross-party path to a more competitive and equitable economy.