The Observer/Guardian carried a recent story/review about Thomas Picketty’s address to the Institute of New Economic Thinking in Toronto. The story was headed “Capitalism simply isn’t working and here are the reasons why” The story draws also on a recently published book by the French economist Picketty “Capital in the 21st Century” The newspaper story asserted “You have to go back to the 1970’s and Milton Friedman for a single economist to have such an impact (as Picketty)”
The Financial Times labelled Picketty a “rock star economist”. Paul Krugman in the New York Review of Books described Picketty’s book as “awesome” and that it was transforming economic discourse. “We will never talk about wealth and inequality the same way we used to” he said.
In this blog Ian McAuley outlines Picketty’s thesis that an apparent small gap between the return on capital and the rate of growth can in the long run have powerful and destabilising effects on the structure and dynamics of social inequality. John Menadue
Like Marx, Picketty recognizes the consequences of an excessive concentration of wealth – loss of markets, eventual diminution of profit, and social conflict leading to revolution. His prescriptions, however, for a progressive tax on wealth, are within the field of orthodox capitalist economics.
He presents convincing evidence that the compression in incomes in the mid-20th century was a unique event. The natural tendency of market capitalism is for concentration of wealth, particularly when there is low economic growth and a high return on capital. (High growth reduces the relative power of established wealth.) A tax on wealth has immediate and minor redistributive benefits, but that’s not its purpose, which is to dampen the positive feedback loop of concentration of capital, because a tax on capital reduces its effective return and therefore weakens the positive (self-reinforcing) feedback of an exponential concentration of wealth.
Picketty puts the unique compression in the mid-20th century down to the events of 1914 to 1950 – an intermittent but destructive war, a depression, and post-war inflation, which combined to wipe out a lot of physical and financial wealth in both the victorious and defeated countries. The expanding inequalities we are now seeing is simply a return to the natural dynamics of market capitalism.
His fundamental thesis, I think, does a lot to explain Australia’s history. We hardly get a mention, but he does point out how the rapid economic growth of the New World (mainly the USA in his examples) made for egalitarianism. I would like to see his thought on why the same high growth did not make for egalitarianism in Argentina in 100 years ago, or in the Middle East 40 years ago.
While I find his analysis convincing, I think he attributes too much to war, depression and inflation wiping out wealth as the sole causes of the compression of incomes. I had the good fortune to be at Harvard when the last of Roosevelt’s liberals were still around – Ray Vernon, Tom Schelling, and JK Galbraith – and they saw the post-war liberalism as a result of deliberate policy, played out domestically in the New Deal and internationally in the Bretton Woods arrangements. Another strong view, certainly influential to the Hawke and Keating Governments, was that the post-war rise of Germany and Japan, while helped by US anti-Soviet policy, was also helped by the war’s destruction of “distributive coalitions” – groups of rent-seekers blocking economic modernization.
Picketty is dismissive of human capital theory. He doesn’t deny its existence (as Marx and Ricardo did), but he thinks its role is overstated. While he celebrates mass education, he does point out that it has not done much to help distribution – we have simply all moved up a notch or two, and there is something of an arms race at the top. But he does present strong evidence that high university fees (particularly in the USA) work against intergenerational mobility.
I find his single prescription somewhat limiting. War, depression and inflation do wipe out wealth, but so too do other disruptions re-allocate wealth. Galbraith, for example, saw the Australian gold rush as a great social re-distributor (not a leveller, however). New technologies do the same. In this regard I find the policies of the current Australian Government, in opposing the disruptive technologies of the NBN and renewable energy, as an attempt to freeze an industrial structure to preserve and strengthen the privileges of existing wealth-holders. Also their policies on superannuation and tax are highly regressive at the top end, and we have a migration program which gives almost free entry to anyone with enough money, regardless of the means by which it was accumulated. Whether this policy is crony capitalism or a misguided application of Reagan’s “supply-side” economics, the consequences are the same – there is a concentration of wealth and an erosion of meritocracy.
Picketty’s greatest contribution is in looking beyond income distribution as an indicator of inequality. (I, for one, have been very critical of the Australian “left” for its narrow focus on income while overlooking wealth.) He looks at the sources of income, and distinguishes between income from labour (which can go up to very high levels of course) and income from wealth. On the way through he looks at the salaries of “supermanagers”, and points out (as many other researchers do) that their salaries have nothing to do with contribution and that they essentially set their own salaries in a self-referential process.
But his greatest concern is with the top one percent with incomes greater than $350,000 and whose income comes from wealth. It is at this level, particularly in the USA, where the bulk of inequality arises – they are taking a huge proportion of the proceeds of economic growth, and damaging any sense of legitimacy in the economic system. In fact, he points out, the very rich enjoy a certain economy of scale – their return on investment is much higher than is available to lesser mortals with only five or six figure amounts to invest. Hence their positive feedback cycle is strengthened. He also points out that the moderately well-off, “petite rentiers”, do very well, while a large proportion of the population has no wealth or negligible wealth. We, the petite rentiers, should pay more tax – in fact redistribution from the top 20 percentile will be more effective in terms of immediate redistribution than simply taxing the very rich – but it’s hard to convince us when we see the very rich getting off so lightly.
His main concern is with the very rich, who are on the way to establish an economic and social order, an oligarchy with inherited privilege, similar to that which existed in Europe in the early nineteenth century – an order which Marx correctly saw as unsustainable. He does not speculate much on our political reaction – perhaps, rather than a revolution, it will be a retreat to protectionism and dirigiste politics.
Reading his book I have come to ask, in relation to the 2008 crisis, “what would Keating have done?” Keating, the fellow who talked about the recession “we had to have”. Perhaps we have been too generous with counter-cyclical levers, thereby accumulating moral hazard in economic systems, while spending a lot of our fiscal ammunition. To reconstruct a right wing metaphor, a hurricane damages all boats, but the damage to a 4 meter tinnie is easier to rectify than the damage to a 30 meter cabin cruiser. Can we achieve a destructive re-distribution without the sort of damage that occurred in the 1930s? My view, taken in part from my time working for the Hawke-Keating Government, and in part from the teaching of Ron Heifetz, is that a task of government is to manage disruption – to steer a policy path between complacency where rent-seekers throttle economic progress as seems likely under Abbott and distress, where the pace of change leads to backlash as occurred under Whitlam..
It’s a rich work of 700 pages. If you do buy or borrow it, I suggest you read the first two chapters and the four chapters in part 4. But be patient. The book is sold out almost everywhere.