A venture capitalist’s argument for inequality

Paul Graham, a venture capitalist and essayist, thinks economic equality can be a good thing, not a bad thing.

Since the 1970s, economic inequality in the US has increased dramatically.  And in particular, the rich have gotten a lot richer.  Some worry this is a sign the country is broken.

I’m interested in the topic because I am a manufacturer of economic inequality.  I was one of the founders of a company called Y Combinator that helps people start startups.

Almost by definition, if a startup succeeds its founders become rich.  And while getting rich is not the only goal of most startup founders, few would do it if one couldn’t.

I’ve become an expert on how to increase economic inequality, and I’ve spent the past decade working hard to do it.

Source: Economic Inequality

He goes on to write about how rich rewards are necessary to motivate people to found start-up companies, and how successful start-ups are good for everybody.  I think that is true as far as it goes, but I don’t think it addresses the real driving forces behind today’s increasing inequality.

I’ve written a good bit on this web log about economic inequality, but my concerns have been less about successful business founders and more about the following:

• Wall Street speculators who get rich at the expense of the public, sometimes by breaking the law, and not only go unpunished, but shift the burden of their losses onto the general public.
• Executives of business corporations, government agencies and so-called non-profits who milk the system to increase their own incomes and the incomes of their cronies, while imposing austerity on those who do the actual work.
• Crony capitalists whose wealth is based on personal connections, especially with politicians and government officials, rather than creating value.
• Rich people whose share of national wealth, as documented by Thomas Piketty in Capital in the Twenty-First Century, tends to grow automatically, all other things being equal.

All this is made worse by rich people who turn their wealth into political power, which they use to destroy the social safety net, starve public services, weaken labor unions and subsidize corporations..

That said, Paul Graham raised a fair point, which I want to discuss.  He pointed out that there is a difference between those who get rich by playing zero-sum games at other people’s expense and whose who get rich by creating value.

I agree.  I think there also is a difference between those who participate in zero-sum games with each other, such as those who participate in high-stakes poker games, and those who participate in zero-sum games with the general public, such as the sub-prime mortgage speculators.

People who create value deserve to be rewarded.  People who make a maximum effort and an important contribution to society deserve more than people who make a minimum effort and a routine contribution.  But I don’t think the rewards system should be structured so that the former get virtually everything and the latter virtually nothing

Suppose there is a society of 1,000 people whose sum total of income, wealth, utility or happiness is equal to 1X per person.  Suppose there is an entrepreneur whose innovation increases the average level of income, wealth, utility or happiness to 2X per person, while increase the entrepreneur’s share to 20X.

That would be okay by me.  Everybody is better off, and it doesn’t matter if that one person is that much better off than the rest.

Click to enlarge.

Now suppose the entrepreneur’s share is not 20X, but 2000X.  That means that the other 999 people will no longer be working to serve their own interests, but the interests of this one person.  I know this is highly abstract and not realistic, but it’s the best way I can think to illustrate my point.

When 10 percent of the American population get 50 percent of the income, that means that, within the conditions of a perfectly free market, 50 percent of all economic activity will go to serve the wants and needs of the 10 percent.

Production would no longer serve the mass consumer market, but what’s been called the “plutonomy“.  I think if you look at innovations in consumer products—the self-driving car, the Apple watch—this is what is happening now.

The end point of unchecked accumulation of wealth at the top, as Piketty pointed out, is France right before the French revolution, when vast numbers of people were employed as lace-makers, perfumers, game-keepers and other servants of the aristocracy, rather than making things for farmers and craft workers.

Click to enlarge.

A new report by Oxfam indicates that this is happening globally.  Oxfam reports that 62 individuals have greater combined wealth than half the world’s population, and 1 percent of the world’s population has greater wealth than the other 99 percent.

This is a dynamic process.   The fraction of the world’s wealth owned by the top 1 percent is increasing, and by the top handful of ultra-rich, is steadily increasing.

To the extent that the world has a perfect free market system, the desires and ideas of 62 individuals have more weight than half the world’s population.  I think this is a bad thing, even if these 62 individuals came by their wealth honestly and through their own efforts—which is not necessarily the case.

According to Oxfam, the increasing concentration of wealth is related to the failure of pay to keep up with increases in productivity worldwide, with wealth being hidden in tax havens worldside and with crony capitalists in poor countries who get monopoly rights to natural resources.

This is not to deny the importance of start-ups and new businesses.  In a healthy economic ecology, new companies and institutions spring up while old companies and institutions decay.  But how much inequality is necessary to encourage start-ups?  Less than we have now, in my opinion.

LINKS

What We Look For in Founders by Paul Graham for Forbes (2010).

The Disruptor in The Valley by Christopher Steiner for Forbes (2010).  A profile of Paul Graham and Y Combinator.

The Refragmentation by Paul Graham.

Economic Inequality by Paul Graham.

Paul Graham has accidentally explained everything wrong with Silicon Valley’s world view by Holly Wood for Quartz.com.

A top venture capitalist thinks Silicon Valley is causing inequality.  He’s wrong by Ezra Klein for Vox.

A Reply to Ezra Klein by Paul Graham.

 

Tags: Economic inequality, Paul Graham, Plutonomy