Capital in the Twenty-First Century

[Sheilbh]

Anyone read it yet, Joan?

April 15, 2014 5:38 pm
'Capital in the Twenty-First Century', by Thomas Piketty
Review by Martin Wolf
An economic, social and political history of the evolution of income and wealth
Capital in the Twenty-First Century, by Thomas Piketty, translated by Thomas Goldhammer, Harvard University Press RRP£29.95/Belknap Press RRP$39.95, 696 pages

French economist Thomas Piketty has written an extraordinarily important book. Open-minded readers will surely find themselves unable to ignore the evidence and arguments he has brought to bear.

Capital in the Twenty-First Century contains four remarkable achievements. First, in its scale and sweep it brings us back to the founders of political economy. Piketty himself sees economics "as a subdiscipline of the social sciences, alongside history, sociology, anthropology, and political science". The result is a work of vast historical scope, grounded in exhaustive fact-based research, and suffused with literary references both normative and political. Piketty rejects theorising ungrounded in data. He also insists that social scientists "must make choices and take stands in regard to specific institutions and policies, whether it be the social state, the tax system, or the public debt".

Second, the book is built on a 15-year programme of empirical research conducted in conjunction with other scholars. Its result is a transformation of what we know about the evolution of income and wealth (which he calls capital) over the past three centuries in leading high-income countries. That makes it an enthralling economic, social and political history.

Among the lessons is that there is no general tendency towards greater economic equality. Another is that the relatively high degree of equality seen after the second world war was partly a result of deliberate policy, especially progressive taxation, but even more a result of the destruction of inherited wealth, particularly within Europe, between 1914 and 1945. A further lesson is that we are slowly recreating the "patrimonial capitalism" – the world dominated by inherited wealth – of the late 19th century.

Some argue that rising human capital will reduce the economic significance of other forms of wealth. But, notes Piketty, " 'nonhuman capital' seems almost as indispensable in the twenty-first century as it was in the eighteenth or nineteenth". Others argue that "class warfare" will give way to "generational warfare". But inequality within generations remains vastly greater than among them. Yet others suggest that intragenerational mobility robs rising inequality of earnings of significance, particularly in the US. This, too, is false: the rise in inequality of earnings in the US over recent decades is the same however long the period over which earnings are traced. High-school dropouts rarely become chairman of GE.

An important finding is that the ratio of wealth to income in Europe has climbed back above US levels, notably in France and the UK. Another is the notably big recent rise in the income shares of the top 1 per cent in English-speaking countries (above all, the US) since 1980. Perhaps the most extraordinary statistic is that "the richest 1 percent appropriated 60 percent of the increase in US national income between 1977 and 2007." Technology and globalisation can hardly explain this, since both were at work in all high-income countries. Indeed, the two most striking conclusions are the rise of the "supermanager" in the US and the return of patrimonial capitalism in Europe.

Third, Piketty uses simple economic models to explain what is going on. He notes, for example, that the huge rise in labour earnings at the top of US income distribution is overwhelmingly explained not by sports stars or entertainers but by increases in remuneration of managers. He argues that this is the result of the falls in marginal taxation, which have increased the incentive to bargain for higher pay, reinforced by changes in social norms. The alternative view – that the marginal productivity of top managers has exploded – is, he asserts, unpersuasive, partly because the marginal product of a manager is unmeasurable and partly because overall economic performance has not improved since the 1960s.

More interesting is Piketty's theory of capitalist accumulation. He argues that the ratio of capital to income will rise without limit so long as the rate of return is significantly higher than the economy's rate of growth. This, he holds, has normally been the case. The only exceptions from the past few centuries are when a sizeable part of the return on wealth is expropriated or destroyed, or when an economy has opportunities for exceptionally fast growth, as in postwar Europe or the emerging economies today.

This theory is built on two pieces of evidence. One is that the rate of return is only modestly affected by the ratio of capital to income. In the language of economists, the "elasticity of substitution" between capital and labour is far greater than one. In the long run, this seems plausible. Indeed, an age of robotics might further raise the elasticity.

The other is that, at least in normal times, capitalists save a sufficiently large share of their returns to ensure that their capital will grow at least as fast as the economy. This is especially likely to be true of the seriously wealthy, who are also likely to enjoy the highest returns. Small fortunes are eaten; big ones are not. The tendency for capital to grow faster than the economy is also more likely when the growth of the economy is relatively slow, either because of demographics or because technical progress is weak. Capital-dominated societies also have low-growth economies.

Fourth, Piketty makes bold and obviously "unrealistic" policy recommendations. In particular, he calls for a return to far higher marginal tax rates on top incomes and a progressive global wealth tax. The case for the latter is that the reported incomes of the richest are far smaller than their true economic incomes (the amount they can consume without reducing their wealth). The rich may even take themselves outside any fiscal jurisdiction, so enjoying the fiscal position of aristocrats of pre-revolutionary France. This fact blunts one of the criticisms of the book's reliance on pre-tax data: over time, the ability of individual countries to redistribute resources towards the middle and bottom of national income distributions might dwindle away to nothing.
Yet the book also has clear weaknesses. The most important is that it does not deal with why soaring inequality – while more than adequately demonstrated – matters. Essentially, Piketty simply assumes that it does.

One argument for inequality is that it is a spur to (or product of) innovation. The contrary evidence is clear: contemporary inequality and, above all, inherited wealth are unnecessary for this purpose. Another argument is that the product of just processes must be just. Yet even if the processes driving inequality were themselves just (which is doubtful), this is not the only principle of distributive justice. Another – to me more plausible – argument against Piketty's is that inequality is less important in an economy that is now 20 times as productive as those of two centuries ago: even the poor enjoy goods and services unavailable to the richest a few decades ago.

For me the most convincing argument against the ongoing rise in economic inequality is that it is incompatible with true equality as citizens. If, as the ancient Athenians believed, participation in public life is a fundamental aspect of human self-realisation, huge inequalities cannot but destroy it. In a society dominated by wealth, money will buy power. Inequality cannot be eliminated. It is inevitable and to a degree even desirable. But, as the Greeks argued, there needs to be moderation in all things. We are not seeing moderate rises in inequality. We should take notice.
Martin Wolf is the FT's chief economics commentator

And from the Economist:

All men are created unequal

Revisiting an old argument about the impact of capitalism
Jan 4th 2014 | From the print edition
Timekeeper
INEQUALITY is one of the most controversial attributes of capitalism. Early in the industrial revolution stagnant wages and concentrated wealth led David Ricardo and Karl Marx to question capitalism's sustainability. Twentieth-century economists lost interest in distributional issues amid the "Great Compression" that followed the second world war. But a modern surge in inequality has new economists wondering, as Marx and Ricardo did, which forces may be stopping the fruits of capitalism from being more widely distributed.

"Capital in the Twenty-First Century" by Thomas Piketty, an economist at the Paris School of Economics, is an authoritative guide to the question. Mr Piketty's book, which was published in French in 2013 and will be released in English in March 2014, self-consciously builds on the work of 19th-century thinkers; his title is an allusion to Marx's magnum opus. But he possesses an advantage they lacked: two centuries' worth of hard data.

The book suggests that some 20th-century conventional wisdom was badly wrong. Inequality does not appear to ebb as economies mature, as Simon Kuznets, a Nobel-winning economist, argued in the 1950s. Neither should we expect the share of income flowing to capital to stay roughly constant over time: what another economist, Nicholas Kaldor, labelled a key fact of economic growth. Mr Piketty argues there is no reason to think that capitalism will "naturally" reverse rising inequality.



The centrepiece of Mr Piketty's analysis is the ratio of an economy's capital (or equivalently, its wealth) to its annual output. From 1700 until the first world war, the stock of wealth in Western Europe hovered at around 700% of national income. Over time the composition of wealth changed; agricultural land declined in importance while industrial capital—factories, machinery and intellectual property—gained prominence. Yet wealth held steady at a high level (see chart, first panel).

Pre-1914 economies were very unequal. In 1910 the top 10% of European households controlled almost 90% of all wealth. The flow of rents and dividends from capital contributed to high inequality of income; the top 10% captured more than 45% of all income. Mr Piketty's work suggests there was little sign of any natural decline in inequality on the outbreak of the first world war.

The wars and depressions between 1914 and 1950 dragged the wealthy back to earth. Wars brought physical destruction of capital, nationalisation, taxation and inflation, while the Great Depression destroyed fortunes through capital losses and bankruptcy. Yet capital has been rebuilt, and the owners of capital have prospered once more. From the 1970s the ratio of wealth to income has grown along with income inequality, and levels of wealth concentration are approaching those of the pre-war era.

Mr Piketty describes these trends through what he calls two "fundamental laws of capitalism". The first explains variations in capital's share of income (as opposed to the share going to wages). It is a simple accounting identity: at all times, capital's share is equal to the rate of return on capital multiplied by the total stock of wealth as a share of GDP. The rate of return is the sum of all income flowing to capital—rents, dividends and profits—as a percentage of the value of all capital.

The second law is more a rough rule of thumb: over long periods and under the right circumstances the stock of capital, as a percentage of national income, should approach the ratio of the national-savings rate to the economic growth rate. With a savings rate of 8% (roughly that of the American economy) and GDP growth of 2%, wealth should rise to 400% of annual output, for example, while a drop in long-run growth to 1% would push up expected wealth to 800% of GDP. Whether this is a "law" or not, the important point is that a lower growth rate is conducive to higher concentrations of wealth.

In Mr Piketty's narrative, rapid growth—from large productivity gains or a growing population—is a force for economic convergence. Prior wealth casts less of an economic and political shadow over the new income generated each year. And population growth is a critical component of economic growth, accounting for about half of average global GDP growth between 1700 and 2012. America's breakneck population and GDP growth in the 19th century eroded the power of old fortunes while throwing up a steady supply of new ones.

Victorian values
Tumbling rates of population growth are pushing wealth concentrations back toward Victorian levels, in Mr Piketty's estimation. The ratio of wealth to income is highest among demographically challenged economies such as Italy and Japan (although both countries have managed to mitigate inequality through redistributive taxes and transfers). Interestingly, Mr Piketty reckons this world, in which the return to capital is persistently higher than growth, is the more "normal" state. In that case, wealth piles up faster than growth in output or incomes. The mid-20th century, when wealth compression combined with extraordinary growth to generate an egalitarian interregnum, was the exception.

Sustained rates of return above the rate of growth may sound unrealistic. The more capital there is, the lower the return should be: the millionth industrial robot adds less to production than the hundredth. Yet somewhat surprisingly, the rate of return on capital is remarkably constant over long periods (see chart, second panel). Technology is partly responsible. Innovation, and growth in output per person, creates investment opportunities even when shrinking populations reduce GDP growth to near zero.

New technology can also make it easier to substitute machines for human workers. That allows capital to gobble up a larger share of national income, raising its return. Amid a new burst of automation, wealth concentrations and inequality could reach unprecedented heights, putting a modern twist on a very 19th- century problem.

Edit: And from the Economist's blogs:
http://www.economist.com/blogs/freeexchange/2014/01/inequality

What Mr Piketty conveys most powerfully, in my opinion, is the fact that economics was once centrally concerned with the question of distribution. It was impossible to ignore in the 19th century! Not least because economists of a market-oriented disposition and those more sympathetic to Marx both wondered whether capitalism was capable of generating a sustainable distribution of the gains from growth. We are all used to sneering at communism because of its manifest failure to deliver the sustained rates of growth managed by market economies. But Marx's original critique of capitalism was not that it made for lousy growth rates. It was that a rising concentration of wealth couldn't be sustained politically. Ultimately, those of us who would like to preserve the market system need to grapple with that sort of dynamic, in the context of the worrying numbers on inequality that Mr Piketty presents.

[Ideologue]

Prediction: it's a great work of economics that will change nothing.

[11B4V]

Anyone read it yet, Joan?

April 15, 2014 5:38 pm
'Capital in the Twenty-First Century', by Thomas Piketty
Review by Martin Wolf
An economic, social and political history of the evolution of income and wealth
Capital in the Twenty-First Century, by Thomas Piketty, translated by Thomas Goldhammer, Harvard University Press RRP£29.95/Belknap Press RRP$39.95, 696 pages

no

[Ed Anger]

Anyone read it yet, Joan?

April 15, 2014 5:38 pm
'Capital in the Twenty-First Century', by Thomas Piketty
Review by Martin Wolf
An economic, social and political history of the evolution of income and wealth
Capital in the Twenty-First Century, by Thomas Piketty, translated by Thomas Goldhammer, Harvard University Press RRP£29.95/Belknap Press RRP$39.95, 696 pages

no

Not enough Tiger Tanks for 11Sturmfuhrer.

[Admiral Yi]

Perhaps the most extraordinary statistic is that "the richest 1 percent appropriated 60 percent of the increase in US national income between 1977 and 2007."

"Appropriated??"

Doesn't Martin Wolf write for the FT?  That's not very FT like language.

[mongers]

Perhaps the most extraordinary statistic is that "the richest 1 percent appropriated 60 percent of the increase in US national income between 1977 and 2007."

"Appropriated??"

Doesn't Martin Wolf write for the FT?  That's not very FT like language.

But it's what happened.

[Admiral Yi]

What do you think the word means mongers?

[Capetan Mihali]

I think "appropriated" is fairly neutral.  However, it has a resonance with "expropriated," which is much more politically-inflected.  But then "earned" would have been equally politically-inflected.  Would "accumulated" work best ("best" being defined most descriptive without signalling a particular politics)?

[Capetan Mihali]

On the macro-topic, I skimmed a critique of the book by Doug Henwood (Left Business Observer), but honestly didn't grasp all that much.

[Sheilbh]

Perhaps the most extraordinary statistic is that "the richest 1 percent appropriated 60 percent of the increase in US national income between 1977 and 2007."

"Appropriated??"

Doesn't Martin Wolf write for the FT?  That's not very FT like language.

He is chief economics commentator at the FT, here writing for the FT. He's also using direct quotation

[Admiral Yi]

He's also using direct quotation

My bad.  I missed that.

[Admiral Yi]

I think "appropriated" is fairly neutral.  However, it has a resonance with "expropriated," which is much more politically-inflected.  But then "earned" would have been equally politically-inflected.  Would "accumulated" work best ("best" being defined most descriptive without signalling a particular politics)?

How much income did you appropriate last year Capetano?

(Accumulated doesn't work because you accumulate stocks and income is a flow.)

[Capetan Mihali]

I think "appropriated" is fairly neutral.  However, it has a resonance with "expropriated," which is much more politically-inflected.  But then "earned" would have been equally politically-inflected.  Would "accumulated" work best ("best" being defined most descriptive without signalling a particular politics)?

How much income did you appropriate last year Capetano?

(Accumulated doesn't work because you accumulate stocks and income is a flow.)

How much of the national income, as the quote has it?  I'm not sure.

What term would you use, barring "earned"?

[Admiral Yi]

How much of the national income, as the quote has it?  I'm not sure.

Or a dollar amount.

What term would you use, barring "earned"?

Received, gained.

[Razgovory]

Anyone read it yet, Joan?

April 15, 2014 5:38 pm
'Capital in the Twenty-First Century', by Thomas Piketty
Review by Martin Wolf
An economic, social and political history of the evolution of income and wealth
Capital in the Twenty-First Century, by Thomas Piketty, translated by Thomas Goldhammer, Harvard University Press RRP£29.95/Belknap Press RRP$39.95, 696 pages

no

I guess ignorance truly is bliss.  I mean,  11Cool4J here is having a riot.