Posts Tagged ‘Distribution of Wealth’

The USA, land of multi-millionaires

December 10, 2015

December-Too-Much-infographicSource: Too Much.

If you ambition is to be a millionaire or multi-millionaire, your chances are probably greater here in the United States than they are any place else.  The USA has more of them than any other country, and the number is growing.

The problem is that average and middle-class Americans aren’t doing so well.  According to the current neo-liberal philosophy, that is perfectly okay.  Winners should be rewarded, losers should suffer and rich people are (by definition) winners.

I hold to the older philosophy, which is that rewards should go to entrepreneurs and other successful people only because and only when they create things of value to the rest of us.

The justification for capitalism is that it is not a zero-sum game – that increasing the wealth of the rich does not necessarily make the rest of us poorer.  During the 1950s and 1960s, I thought this plausible – at least for Americans.  I don’t think this justification holds true for the USA today.

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Reflections on Piketty’s inequality argument

June 14, 2014

The novels of Jane Austen, Honore de Balzac or Henry James, in which civilized life was confined to a small percentage of the population and the only way most people could acquire significant wealth was to inherit it or marry it.

According to Thomas Piketty’s Capital in the Twenty-First Century, there is nothing to stop that kind of world from coming back.

1_percent_decomposed_2.png.CROP.promovar-mediumlargePiketty’s basic argument goes as follows:
•    If the rate of return on investment is a higher percentage than the rate of economic growth, which he expresses as r > g,  the owners of investment property will get an ever-larger share of national income.
•    R > g is the normal state of affairs.
•    Ownership of wealth is distributed even more unequally than income.   The higher the share of income that comes from wealth, the more unequal it will be.
•    The larger the amount of wealth you own, the faster it is likely to compound.   So not only do the rich become richer at a faster rate than ordinary people, the super-rich become richer at a faster rate than the ordinary rich.
•    At some point the process levels off, but the leveling-off point may not come until inequality reaches a point that we associate with 18th century Europe or the Third World

The economic prosperity and relative equality during 1945-1975 were made possible by the destruction of capital during the Great Depression and the two World Wars, according to Piketty.   Of course war and depression left everybody worse off, not just rich people, but when economic growth resumed, a lesser share went to the economic elite.

Piketty’s conclusions are backed up by archival research that traces income and wealth distribution in France, Britain and the USA for two centuries and many other countries for shorter periods of time.  That research shows that r > g is the typical state of affairs in most countries and most periods of history for which information is available.

One striking finding is that there is just as much inequality among the elite as there is among the public at large.  In the USA, the top 10 percent have about half the wealth, the top 1 percent have about half the wealth of the top 10 percent, and the top 0.1 percent have about half the wealth of the top 1 percent.

Another finding, based on comparisons of American university endowment funds, is that the larger the amount of wealth you have to invest, the higher your rate of return is likely to be.   This is probably because the richer you are, the better financial managers you can hire, the better able you are to diversify your investments and the better cushion you have when you make high-risk, high-return investments.

chart_2.png.CROP.promovar-mediumlargePiketty proposes to deal with inequality by means of a graduated tax on wealth to go along with graduated taxes on inheritance and income.  But there are other ways.

You could figure out ways to increase the rate of economic growth, for example.  Or you could figure out ways to achieve a wider distribution of wealth, such as through employee stock-ownership plans or worker-owned enterprises.   Or you could strengthen labor unions, increase minimum wage or take other measures to increase the incomes of the middle class, working people and the poor.

It’s important to keep in mind that Piketty only deals with one specific issue, the concentration of income and wealth in a small elite—an important issue, but not the only one.   Piketty does not tell us how to raise people out of dire poverty, nor how to achieve better productivity, or economic growth, or better education, or a cleaner environment, or any other goal.

And taking money away from the economic elite will not in and of itself make anyone any better off.   A lot of financial wealth was destroyed during the Great Depression and and a lot of tangible wealth was destroyed during World War Two, but this did help anybody at the bottom of the economic scale.  Piketty thinks that destruction of wealth cleared the way for the prosperity of the 1950s and 1960s, but I don’t think anybody who lived through the 1930s and 1940s would have said it was worth it.

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Sustainability, ZPG and Piketty’s equation

May 1, 2014

If environmentalists achieve their dream of a sustainable, steady state economy and zero population growth, and if nothing else changes, then wealth will become more and more concentrated in a tiny wealthy elite.

populationgrowthoriginal

Source: Piketty, Capital in the 21st Century

That’s a logical conclusion from Thomas Piketty’s formula of r > g in his book, Capital in the Twenty-First Century.  His simple but powerful idea is that if the rate of return on investment is a higher percentage than the rate of economic growth, then an ever-higher percentage of income will go to investors and a ever-less percentage to workers.  At some point this wold level off, but it could be at high levels of inequality, just as in the past.

Now what is economic growth?  It is the product of the increase in output per person and the increase in the population.  Birth rates are falling in many parts of the world, including North America, Europe and China, and the rate of economic growth can be expected to fall to the extent that high growth in the past has been based on cheap coal, oil and natural gas.  If through all this the rate of return on investment remains at historic averages, then the rich will get richer at a faster rate than the economy grows (if it grows at all) and increasing amounts of wealth will be concentrated in the hands of a tiny elite.

piketty12growthrate

Source: Piketty, Capital in the 21st Century

Now this could play out in a number of ways.  There could be a sudden collapse, wiping out investments in the fossil fuel industry and the industries dependent on it (such as the auto industry).  Another Great Depression would be a very bad thing, but, like the previous Great Depression, it would be an example of what the economist Joseph Schumpeter called “creative destruction”.  By wiping out capital invested in obsolete or declining industries, it would open the way for new industry.

Unfortunately the known sustainable energy technologies are capital intensive.  That is to say, it is relatively cheap, for example, to build an oil-fired or natural gas-fired electrical generating plant, but the fuel itself is expensive.  With hydroelectric generating plants, windmills or solar energy, the source of energy is virtually free, but it costs a lot to make the equipment, and this requires capital.

Then again, maybe high technology will not be feasible.  Maybe a sustainable economy will be based on earlier types of technology.  If so, this will not necessarily mean less inequality.  Inequality in ancient and medieval Europe was greater than it is now.

A bleak equation.  But there are answers.  I’ve mentioned some of them in a previous post.  A more radical solution would be a redistribution of property so that return on investment would benefit everyone and not just a few.  There might not be a role for limited-liability, for-profit corporations in a slow-growth or no-growth economy.  Credit unions, consumer-owned cooperatives, employee-owned corporations or other forms of organization might work better.  As the Bible says, new wine belongs in new bottles.

Environmentalists will have to face up to this one way or another.  If birth rates fall to a zero population growth rate, this will mean an increase in the elderly population relative to the working-age population.  This can only work if there is an increase in the productivity of the working-age population, and this would have to be accomplished without technologies that burn up fossil fuels at a faster rate.

I don’t pretend to know the future, and I don’t pretend to know what a sustainable economy would be like.  Maybe some miracle technology will be invented that will resolve this issues, and all these concerns will have been for naught.  I wouldn’t count on it

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Piketty on the power of inherited wealth

May 1, 2014

inheritanceflowpiketty_u

living-standards-in-france-by-birth-cohort-as-multiple-of-the-average-income-top-1-inheritors-top-1-labor-earners_chartbuilder-1

In Balzac’s story Pere Goriot, set in the early 1800s, the struggling law student Rastignac lives in the same boarding house as the master criminal Vautrin and the impoverished former millionaire Goriot.   Vautrin explains to Rastignac the odds against his ever achieving success sufficient to earn a life with dignity, and advises him to woo and wed a rich heiress instead.

In the charts above and below, Thomas Piketty, in his book Capital in the Twenty-First Century, showed the gap in those days between inherited wealth and wealth achieved through one’s own efforts.   He didn’t have comparable data for the United States, and doesn’t think the flow of inherited wealth was as great in the USA.

That gap has narrowed, Piketty warned that there is nothing to prevent those days from returning.  A Sam Walton may build a retail empire through his own efforts, but all his children and grand-children have to do in order to be rich is simply to mess up.  His research indicates that great wealth compounds faster than moderate wealth, because the ultra-rich can diversify their investments and call upon the best expert advice.

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Protecting wealth vs. promoting growth

April 30, 2014

piketty,mattbors5_n

There’s no single principle that explains everything, but there is great explanatory power inn the French economist Thomas Piketty’s idea that inequality always increases whenever the rate of return on investment exceeds the rate of growth of the economy, that is, when r > g.

piketty-saez-top10aThis is not something that results from impersonal economic forces.  During the past 30 years, the policy of the U.S. government, and of governments that follow the U.S. lead, has been to prioritize return on investment over economic growth.

The U.S. Congress and many state governments are in the process of cutting back scientific research, education, maintenance of public works and other things that are needed for our nation’s economic future, in order to keep tax rates low for corporations and upper bracket taxpayers.

These are the same “austerity” policies being enforced by the World Trade Organization, International Monetary Fund and European Central Government on vulnerable governments, which are forced to sacrifice the well-being of their citizens in order to satisfy powerful financial institutions.   In both cases, there is a tradeoff to sacrifice economic growth in order to maintain returns on investment.

top1%sharechart-02One part of austerity is to sell off government property at bargain rates and delegate public services to corporations.  Most of the time this amounts to a transfer of wealth from taxpayers to well-connected business owners, who have no financial incentive to maximize service.

Some other ways that government policy fosters investor income at the expense of economic growth are (1) bailing out banks that have failed due to reckless financial speculation, (2) refusal to prosecute financial fraud by the “too big to fail” banks or claw back profits due to fraud, (3) expansion of patent and copyright monopolies, (4) failure to regulate cable and telecommunications laws, (5) failure to enforce antitrust laws, (6) the ban on student loan refinancing or bankruptcy …. The list goes on.

Increasingly corporate management seeks profit not by increasing the size of the economic pie, but by giving investors and executives a larger part of the pie — through financial manipulation and excess fees in the case of banks, through driving down wages and increasing executive compensation in the case of corporations in general.  I don’t say all corporate managers behave in this way.  I say that this has become common and acceptable.

the-top-01-of-americans-get-a-near-record-amount-of-income-at-around-10The result has been a concentration of wealth and income in a tiny minority of the population, and economic stagnation for everybody else.   So the first step in reducing inequality is to stop promoting it.

Piketty’s preferred solution to undue concentration of wealth is a progressive tax on capital, sufficient to prevent the wealth of the economic elite from expanding at a faster rate than the economy as a whole, along with progressive taxes on income and inheritance.  I don’t object to any of these, but higher taxes on the rich do not, in and of themselves, benefit the middle class, wage-earners or the poor.   I think it is more important to  strengthen labor unions, raise the minimum wage, maintain essential public services and invest in the future.

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Defenders of wealth push back against Piketty

April 29, 2014
piketty12growthrate

Source: Thomas Piketty, Capital in the 21st Century

If things go on as they are now, there’s nothing to prevent wealth from becoming more and more concentrated and economic inequality returning to the levels of England and France 200 years ago, according to French economist Thomas Piketty in his new book, Capital in the Twenty-First Century.

But many economists say this is not a problem.  They say concentration of wealth is a good thing, not a bad thing, and benefits us all in the long run, not just a tiny elite.   In this post, I will consider this argument, and state it as fairly as I can, then explain what I think the argument leaves out.

Concentrations of wealth are necessary to a capitalist free-enterprise economy.  They provide the means to invest in machinery, technology, education and the other things that increase society’s total wealth.   Capitalism has generated more economic growth than any alternative system and, without capital, there is no capitalism.

The chart above is illlustrates Piketty’s conclusion, based on his research,  that, most of the time, r > g – that is, the rate of return on investment exceeds the rate of growth of the economy, which, as a matter of logic, means that the income of investors grows faster than the income of wage-earners.

Now the chart should be read with discretion.  The parts prior to 1820 are no more than an educated guess; the parts from 1820 to the present are blends of different national economies; the future projection is possibility, not a prediction.  That’s no criticism of Piketty.  He did the best he could with the data available, and what he shows is reasonable.

According to the chart, r > g by a great deal on average prior to 1913.   Nevertheless there was an increasing rate of economic growth.  Inequality was just as extreme in 1913 in France and Britain and more extreme in the USA compared to 1820 or 1700, but that doesn’t mean the average person got no benefit from that growth.  It just meant there was just as much of a gap between rich people and the rest of us.

Not all rich people did things that promote economic growth, but the famous economist Friedrich Hayek argued that an idle rich class is of benefit to society.  They are pioneers in consumption, he said.   Once automobiles were a luxury for the upper class, for example, but now almost every family in North America owns one.  If rich people hadn’t provided an initial market, automobiles would never have developed.   Medical treatments which once were affordable only to rich people are now available to the general public.

Rich philanthropists finance good works, including, as economist Tyler Cowen pointed out, Belknap Press of Harvard University, publisher of the English translation of Piketty’s book.

A final argument is that the problem of excessive returns on capital is self-correcting.  When you have too much capital, the rate of return on capital falls.  If too many houses are built, rent falls.  If capitalists invest too much in building railroads or making personal computers, railroad tickets or computers become a glut on the market, and profits fall.  The economist Joseph Schumpeter called this “creative destruction,” and he said this is how the capitalist system renews itself.

I don’t think these arguments are completely wrong, but they leave a lot out.   Let me explain.

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Piketty’s Capital21: why is inequality rising?

April 28, 2014

Thomas Piketty’s Capital in the Twenty-First Century is a great book.  It consists of the working out of the implications of a simple principle, namely, that if the return on investment is a higher percentage rate than economic growth, wealth and income will become more and more concentrated in the hands of a tiny minority.

He said there is nothing to prevent wealth from becoming as concentrated in the hands of a tiny elite as it was in France and England in the 18th and 19th centuries — which is not the same thing as saying this is certain to occur.   I’m now re-reading Piketty’s book, from which I’m learning a lot, but l think it is important to be clear on what he’s saying and not saying,

He says that historically return on investment has exceeded the rate of economic growth, or, as he puts it, r > g,ut, like most economists, he writes of this as if it were the impersonal workings of the economy.  He lumps all income-producing forms of property together, which is legitimate for his purposes, but I make a distinction between (1) innovators who create value, (2) inheritors and passive investors and (3) usurers and manipulators.  The first deserve rich rewards, the second deserve average rewards, the third deserve to be unemployed or maybe in prison.   I think the rise of people in the third category is a big reason for the upward distribution of income in the USA.

Extreme inequality of income is a bad thing because it gives a small group of people too much power over the rest of us.  But curbing the excessive power of the top 0.1 percent or top 0.01 percent of income earners will not, in and of itself, create economic growth or end poverty.   These are not Piketty’s topics.

His preferred solution to excessive concentration of wealth is a progressive tax on capital along with progressive taxes on incomes and inheritances.  I’m not opposed to this, but I think there are other, better ways to change the r > g equation.  Promoting economic growth is one way.  Empowering wage-earners, such as by stronger labor unions or higher minimum wage laws, is another.

Below are links for those who want to know more, but don’t have time to read the 585 pages of his book and 78 pages of end notes.

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Piketty’s formula: its scope and limits

April 4, 2014

Source: Emmanuel Saez and Garbriel Zucmanhttp://www.hup.harvard.edu/features/capital-in-the-twenty-first-century-introduction.html

http://www.yjs.fi/wp-content/uploads/2013/12/Thomas-Piketty-pres..pdf  [Thomas Piketty’s Power Point presentation]

Click to access SaezZucman2014Slides.pdf

http://www.slate.com/blogs/moneybox/2014/04/02/wealth_inequality_is_it_worse_than_we_thought.html

The brilliant French economist Thomas Piketty has an economic formula which shows why, most of the time, the wealthy elite captures a larger and larger share of a nation’s income, and also why, some of the time, the rest of the nation catches up.

pikettybookcover00While my previous post about Piketty and his great book was long, I didn’t really explain his formula and how it works.

His formula, which he calls the fundamental law of capitalism, is as follows:

The capital income ratio (a) equals the rate of return on capital (r) times the national wealth (beta*),

That is, if the national wealth – every form of property that can produce an income for its owner, which is what Piketty calls capital – is six times, or 600 percent, of the nation’s annual output, and the average rate of return on capital is 2 percent, then owners of capital will receive 12 percent of the nation’s income in that year.

If a nation’s annual income is static and the owners of capital reinvest some of their income, then capital will be a larger multiple of the national income the following year, and the owners of capital will receive a larger share of national income.  If a nation’s annual income is growing, but the return on investment is a higher percentage than the growth rate, the owners of capital will get a larger share of national income the following year.

Once this is explained, it seems obviously true – at least to me.   And it seems to be a problem – at to me.   The graph above, prepared by Emmanuel Saez of the University of California (Piketty’s long-term collaborator) and Gabriel Zucman of the London School of Economics, shows how unequally wealth is distributed in the USA.  More than 1/5th of U.S. wealth is owned by 1/1000th of the population.  It is easy to see how the normal working of Piketty’s formula could cause them to suck up more and more of the nation’s income.

Thomas Piketty

Thomas Piketty

What do you do about it?   Piketty proposed graduated taxes on income, inheritance and wealth itself, sufficient to bring return on investment down to the rate of economic growth. 

I don’t see anything wrong in principle with a wealth tax.   I pay a property tax on my house.  Why shouldn’t a billionaire pay taxes on his investment portfolio?    But this is going to take a long time to bring about, even if everybody agrees.  For one thing, it will require the elimination of all the tax havens where the super-rich hide their money, which will require international agreement.  For another, increasing the government’s revenue does not necessarily benefit the public – if taxes are used to finance aggressive war, for example.

There are other possible solutions, because there are other factors in the equation.  If strong economic growth can be restarted, if the economic growth rate exceeds the return on investment rate, that would solve the problem.   Strong labor unions and minimum wage laws would increase the income share of working people and the middle class.   There are many possible approaches.

In theory, the solution could be wider ownership of capital by the public, such as by ESOPs (employee stock ownership plans) or by pension funds.  Back in the 1970s, the management analyst Peter Drucker noticed that pension funds were acquiring a bigger and bigger share on the U.S. stock market.  Eventually, he predicted, this would accomplish the Marxist dream of worker ownership of the means of production!

This didn’t happen because the corporations that controlled the pension funds didn’t allow it to happen.  But if workers controlled their pension funds, it would be a different story.  This would not be a practical reality any time soon, or perhaps ever.  The point is that tax policy is not the only means to deal with hyper-concentration of wealth.

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How equal should we be?

September 6, 2012

During the past 30 or 40 years, wealth in the United States has been redistributed upward.  I think this is a bad thing.  But if you ask me how I think wealth should be distributed among income groups, I don’t have a good answer.  In fact, I would rather avoid the question.

For years I thought that inequality, as such, didn’t matter.  I believed there should be a social safety net, and I favored policies to promote a high-wage, full-employment economy, but I wasn’t concerned with the size of the gap between rich and poor.  If I have all I need, and the people on the bottom rungs of the economic ladder have the necessities of life, what difference does it make how much more other people have?  If I have a house to live in, how does it hurt me if someone such as John McCain owns so many houses he can’t remember how many they are?

The philosopher John Rawls, in  A Theory of Justice, acknowledged that a certain degree of inequality of income can benefit everyone, including the worst-off members of society.  It is right (my example, not his) that physicians be paid more than newspaper reporters, because physicians have a scarcer skill, require more years of schooling to learn their job and arguably are more necessary to society.  It is right that entrepreneurs be richly rewarded, because of the high risk and the many entrepreneurs who fail, and because if someone gets rich by creating a business that produces valuable goods and services, there is a good chance the person will use the riches to produce more valuable goods and services.

The theory of the  free enterprise system is that capitalists grow rich when they do a good job of serving the wants and needs of the public, and are thus enable to expand at the expense of competitors who serve the public less well.  When the system works this way, Rawls’ criterion is met.   The problem is in distinguishing the wealth that is acquired from creating value from the wealth that is created from what economist Joseph Stiglitz in The Price of Inequality called “rent-seeking”—leveraging your position in society to extract wealth from others.

I like to see people being richly rewarded for their achievements, such as starting or managing a successful business, or writing a best-selling novel.  I have no objection to people being richly rewarded for success in competition, such as high-stakes poker or trading on the stock market, provided their winnings come from other players and they don’t expect to be bailed out by the public.  I realize that there is always a certain amount of luck in success, but that is all the more reason to reward success.  The winner of a lottery has no more merit than anyone who bet on the lottery, but nobody would participate if the rewards were all equal.

What I have a problem with is the emergence of a privileged class, who are rewarded for attending elite schools, belonging to elite organizations and networking with other members of the elite.  They gain access to top jobs in corporations, government, academia and the so-called non-profit sector.   Christopher Hayes in Twilight of the Elites pointed out members of this class regard themselves as a “meritocracy,” but their merit consists of their credentials, not their achievements or their contributions to society.   I think the average partner in Goldman Sachs is smarter than I am, at least about how to acquire money, but having superior intelligence does not give you a right to manipulate government, commit financial fraud or swindle the so-called “losers.”

What we should be concerned about is not how much money people have (although I doubt the world would be worse off if the fortunes of the world’s richest people were measured in nine figures instead of 11 figures), but how it is acquired.  Instead of trying to redistribute wealth back downward, we should change the rules to reward producers rather than rent-seekers.  I am not concerned about how much can be earned honestly.  By “honestly,” I mean not just technically within the law, but giving actual value in return for value received.

To be clear, I do advocate that federal income taxes on rich people be returned to 1990s levels, but that is in order to cover the expenses of government, not in order to change the distribution of income in society.  Taxes at 1990s rates will not prevent rich people from being rich.  And if certain governmental measures, such as provision of public parks or public libraries, happens to benefit the public more than the upper 1 percent, I regard that as a plus, not a minus.  One of the problems with the emergence of a privileged class is that they have the power to distort the economic and political system so that it serves their desires, which are disconnected from the needs of the general public.

Notice that the top chart in this post deals with the top 20 percent of income owners, while the lower chart is about the top 10 percent.  My real concern is with the top 1 percent and top 1/10th and 1/100th of 1 percent.

Do you have a philosophy of distributive justice?  If so, how do you think wealth should be distributed?