Wealth Fraction Dominant Assurance Contracts

Dominant Assurance Contracts (DAC’s) are a means of funding public goods between individuals without the need for government intervention.

However, DAC’s make everyone pay the same amount into a public good. This is a problem because it means that DAC’s don’t account for strength of peoples preferences. For example, even if one person values a public park at $100 while another person values it at $10, both would pay the same amount on a dominant assurance contract to build a park. This means that DAC’s leave money on the table which could have gone towards building the good.

It also strikes me as unfair that extremely wealthy individuals would pay the same amount into a public good as poor individuals. Finding an approach which feels fair to participants is a crucial step towards designing mechanisms with legitimacy.

Fortunately, these problems can be fixed with a small tweak: instead of paying the same dollar amount, people might pay the same fraction of their wealth to the public good. I call this system a wealth-fraction dominant assurance contract (WF-DAC). Here, individuals with more wealth and thus higher willingness-to-pay will spend more for the same good1. This makes things feel more fair, as wealthier individuals pay proportionally more for the good.

But there is a problem with this system. How exactly to we measure people’s wealth? This can be quite tricky. For example, how do we consistently assess the value of different assets such as investments, art, or real estate? If someone has high income but an empty bank account, should they really pay nothing, or should future income be factored into wealth? Worse, people will have an incentive to under-report their wealth in order to pay less into public goods.

There are a couple possible solutions to this problem. For example, it may be possible to create contracts which require people to reveal their wealth as stated on their tax returns. Or, instead of relying on tax returns, one might imagine a smart contract which uses people’s current cryptocurrency holdings or net income as a measure of wealth.

These solutions are somewhat ad hoc, since there are still ways for people to misrepresent their true wealth. But there is a key case where the issue of wealth reporting becomes less significant: public goods finance between countries.

As I have noted before, public goods finance between countries is an essential way we might tackle global problems. Applying the WF-DAC to the country level, there might be an international agreement which requires all countries to devote one millionth of their GDP to pandemic prevention efforts.

But wouldn’t countries still have an incentive to under-report their GDP? They would, however, it is much harder for a country to hide trillions of dollars from other countries than it is for a wealthy individual to hide assets from peers. Overall, state efforts to hide wealth in order to under-fund public goods would amount to a rounding error; this system would still vastly increase global public goods spending despite attempts to hide true GDP.

Ideally, simple extensions of dominant assurance contracts like this would have been thoroughly examined by now. The fact that (to my knowledge) WF-DAC’s have not been discussed illustrates that there are many unexplored possibilities in the field of public goods finance, and more experimentation is needed to find robust ways of providing for the common good at different scales.

Notes
  1. This also has the nice property that if everyone has utility logarithmic in wealth, individuals sacrifice the same amount of utility in order to fund the public good.
%d bloggers like this: