Government vs. the innovators

The startup Zenefits provides software that helps companies handle benefits, payroll, and related taxes. It gives away its software for free and gets a commission from benefits providers that customers pick through Zenefits software.

And now, the Utah Insurance Department has threatened to shut Zenefits down for being free, and underpricing incumbent brokers.

This isn't just a case of incumbent businesses using legislation to prevent more innovative companies from springing up, which is already an enormous problem in America. Government over-regulation is a big part of the problem, too.

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After all, the reason why companies need services like Zenefits to begin with is the morass of regulations and taxes that they have to deal with. Companies have to file with the IRS whenever they hire employees, pay independent contractors, or when they reimburse their employees for their expenses. They have to pay state and local taxes on top of federal. And then there is the wonderful thicket of benefits: health insurance (medical, dental, vision), COBRA regulations ("I'm from the federal government, and here's a COBRA"), 401(k)s, and so on. And yes, this is the very system that ObamaCare further entrenches.

So we have government regulations that create a problem, entrepreneurs who spring up to make it easier — and then become a constituency for keeping the problem around so that people still have to buy the entrepreneur's solution. (Another great example is how H&R Block and other tax preparers always lobby against tax simplification.)

This isn't just right-wing pablum. There is also a left-wing critique of this problem, which is that a lot of these problems arise because politicians don't want the government to provide these benefits directly, because that would be "government spending." So instead they pass laws mandating that businesses give these benefits to their employees (which increases the cost of labor, and thus increases unemployment, and depresses wages at the same time), creating the morass to begin with. This is what the political scientist Stephen Teles has called "kludgeocracy."

Kludgeocracy is the consequence of a phenomenon of "concentrated benefits and diffuse costs." A regulation that protects some interest group, like Utah health-insurance brokers, provides a very concentrated benefit to those brokers. And though it creates a clear cost to the rest of society, that cost is diffuse. It probably amounts to only a few cents for each citizen. And so when those regulations come up for debate, the minority that benefits will fight tooth and nail to keep it, while the general public that isn't even aware of the diffuse cost will tend to be apathetic.

Here's the problem: All those diffuse costs pile up, because Utah health-insurance brokers aren't the only special-interest group in America.

And there is an even broader shift in play. Zenefits is not the only company involved. Consider the phenomenon that the well-known Silicon Valley venture capitalist Marc Andreessen has called "software eating the world." Until recently, the software industry was either about itself (new and better software replacing older software), or about making existing industries run more efficiently. But now software is not just helping industries run more efficiently, but actually remaking them. The first generation of internet travel software made it easier to book a hotel room; now Airbnb is changing the very concept of the hotel. Or think of how Disney had to buy a software company, Pixar, to remain relevant in the world of animation. Disney!

This means that, as in the Zenefits case, or the case of Uber versus various taxi commissions, or Amazon's drone delivery program, technology entrepreneurs are increasingly going to find themselves on the wrong side of government. As the internet remakes various sectors, they are either going to brush up against existing regulations or incumbents are going to go to legislators for support.

As a free-market conservative, I view this with mixed emotions. On the one hand, Uber is clearly good in terms of clearing away the taxi monopolies I so abhor. On the other hand, as Uber and others are forced by the course of events to get good at lobbying, tech companies might very well find out that gaming the system's various regulations can become a competitive advantage. For example, Zenefits is clearly the "good guys" in their fight with the Utah Insurance Department; but if Zenefits gets big enough, it just might want to keep lobbying for the regulations that make its software necessary to begin with.

In any case, this is a multifront war that is only just beginning.