I don't find that to be the most plausible mechanism for the proliferation of laws at all. More likely, it's an emergent property of the legal system in a democratic context that can probably be explained in terms of game theory. At any legislative junction, there's a cost or benefit associated with enacting or not enacting a law. Take the arrowhead removal example from the article. You're a lawmaker and you're faced with the problem of people pilfering Native American artifacts, and this law is presented to you. Which side are you going to be on? The side of desecration? Or the side of preservation? Boom. Another law. At each juncture, there's a good reason to pass another law.
What emerges from this is a jumble of laws. Each local decision is made in response to an immediate concern, and cannot take the jumble-of-laws problem into account. You're only adding one law, after all, and it's benefit is clear.
"Well, what about repealing some?," you may ask. Well, what's the "game" when it comes to repealing them? Even if each law got on the books for--heh--objectively bad reasons, those reasons were still "good" in that they contained a political benefit. Often, repealing them would have the unacceptable adverse consequence of giving up that benifit. You wanna be the guy to repeal the broken sex offender registry laws and be perceived as on the side of rapists and pedophiles? How bout the U.S.A P.A.T.R.I.O.T. Act and be perceived as being "on the side of the terrorists"? What now, hotshot?!
None of the above requires a conspiracy, as your post intimates. Those effects emerge as unintended consequences from the dynamics of a system. The even more infuriating thing about that quote in this context is that it ignores the corrective power of a democracy in crisis. There eventually does come a point where people wise up and rise up on specific issues. Prohibition, slavery, and civil rights come to mind. Revolutions, as they say, are impossible until they happen, and then they were inevitable.
Finally, the mechanism of control in your Rand quote is just ludicrous. How would one "cash in on guilt" in a system that is as patently absurd as the one you cite? Nobody would feel guilt about breaking those laws. The arrowhead collectors didn't "feel guilt." Quite the opposite, it seems. They paid the bill and openly talk about how absurd it is. The only way one could use a system like the one you outline would be to actually lock everyone up. It's just not practical, and it's not even the kind of control your example seems to advocate. Ostensibly, the controllers in your fictional example want people to behave a certain way out of fear of being locked up, not to actually have to lock them up for misbehaving.
Try to critically scratch the surface of word-butchered fanboy fictional allegories that comprise Ayn Rand's work before posting them here verbatim as if they actually have any bearing on the real world. The real issue here, and one from which your post serves as a distraction, is the evisceration of the mens rea requirement for a finding of guilt.