Governing Model Inefficiencies
Finally, let’s consider some common inefficiencies within governance models (or within nested governance models where one government is contained within another), as well as potential ways to address them.
Rent Seeking
This occurs when an individual or a company uses the resources of the government without the goal of giving anything back. It can be hard to fight because those who benefit from the corrupt governing body have far more to lose than anyone fighting it has to gain by ending the abuse.
Solution 1
At the state level, the most obvious solution to rent seeking is to have life appointment positions (similar to the Supreme Court) at a branch of the government designed to stamp it out. The life appointment is necessary because of the strong pressure for those benefiting from rent seeking to find a way to help the individuals of this department to maintain their position. If a system can be corrupted, it will be, given enough time.
Solution 2
If rent seeking can be quantified, you may attempt to apply economic pressure against it. A reward slightly larger than the value generated by any rent-seeking behavior identified can be granted to anyone who discovers and proves the existence of said rent-seeking behavior. This reward would be paid for by the rent seeker. While such a system is interesting, we must state that it would almost certainly lead to unintended consequences, as almost all market-based solutions do. (Note: The reason you have the rent seeker pay the reward is that it prevents situations in which the reward system ends up motivating teams in which one person creates rent-seeking behavior where it otherwise would not exist and then their partner catches them.) Such a system would also create an economic incentive to form and invest in companies that use AI to catch rent-seeking behavior.
Solution 3
In the Dune book series, counsel at one point discusses a problem in which poachers of a valuable resource (spice) are paying bribes to those meant to be guarding it in order to access it. The protagonist suggests a solution in which the average price of these bribes is calculated and the government introduces a program in which poachers can just pay directly for access to the spice, starving out the rent seekers and redirecting the previous “friction” into the economy while reducing the government’s operational costs.
This “antiseptic” strategy has always been our favorite to implement. Essentially you take the rent seeking behavior that is endemic and make the government system itself a more efficient customer of it. The downside is that this only works for a very specific subset of rent-seeking behavior.
The Flypaper Effect
If a regional governing module is receiving resources from a larger (e.g., national) one, the regional body spends those resources inefficiently (when contrasted with locally-raised funds). This is a well studied and measured effect in the academic field that focuses on governance, so named because “money always sticks where it hits.”
Solution
With state governing bodies, the solution is obvious—funds should always be raised locally when possible.
Where this gets more interesting is among private entities—is the money that goes to a corporation’s marketing department subject to the flypaper effect if it is a set sum every month? We would argue that in most cases, it is. This hazard can be addressed by having departments’ contributions to the company quantified and their budget based on said contributions. Obviously, this has the downside of punishing struggling departments at a company. This could be addressed by allowing for multiple competing iterations of a struggling department to be judged by the same metric (i.e., you could have multiple marketing departments functioning independently with more resources going to the more successful department).
The Principal-Agent Problem
This happens when an individual is hired for a job that entails both misaligned incentives and asymmetric information. Think of a board hiring a CEO or you hiring a lawyer. You don’t know what is involved in law well enough to know if the hours that lawyer is billing you are legitimate. This problem can be compound when the agent works for multiple principles.
Solution
This problem is slightly more intractable than the others discussed and the solutions available are tentative at best. If we had to advocate for one, it would involve using open, competitive labor markets where principals can view agents’ reviews and long-term performance in favor of clients.
In our companies, we have found the best solution is to psychologically flip the problem on its head: Have the principal share as much information with us as possible about how they are structuring their time and charging us.
Moral Hazard
This occurs when an entity has an incentive to increase its exposure to risk because it does not bear the full costs of that risk. The classic example here is pollution.
Solution
Price the exogenous risk and pass that risk on to the governance structure or individual—then allow that priced risk to be traded on a free market. We see this running effectively in the carbon credit market.
Regulatory Capture
This is the process whereby a regulatory module of a governance structure is “captured” and controlled by something it is supposed to be regulating. At the state level this could look like the tobacco industry using tobacco regulators to prevent new companies from entering the industry. At the level of a family office, this could look like a system that was originally designed to ensure one’s descendants still get real jobs being used to disenfranchise the descendants who don’t have time for family politics … due to having real jobs.
Solution
Generally speaking, the best way to prevent regulations from falling into the very hands they were meant to block is to not create those regulations in the first place. If you must create regulations, make them something anyone (versus just industry experts) can calculate and enforce.
Regulatory capture is facilitated at the state level by the fact that most of the career opportunities for someone experienced enough to regulate a thing will be in other companies in the same field (an expert in nuclear power will either be regulating the industry or working in it). At the level of the family office, regulatory capture is facilitated by the competence paradox: That the least competent family members have the most time for family politics and the least to lose by playing dirty.
If you make the regulations so simple and objective that a randomly-chosen stakeholder could enforce them—and if you systematically avoid hiring industry players or family members to judge regulatory infractions—then you can insulate yourself from regulatory capture. More complicated systems less susceptible to regulatory capture can be created through the use of artificial intelligence.