Capital and growth in the 21st to 24th century

blogjuly17

Which book do we read to wind down on our summer holiday? Indeed, all 577 pages of Thomas Piketty’s “Capital in the 21st century”. Executive summary: societies (e.g. 19th century Europe, 21st century US and Europe, emerging countries) naturally tend towards greater income inequality as long as the return on capital investment (around 5%) exceeds growth (1-2%, unless your society is catching up with others). In recent history, only the world wars reduced income inequality in the West. Currently, the most reasonable (capitalist) way of reducing the inequality is to raise a global tax on capital (as compared to e.g. appropriating large estates or waiting for inflation to reduce wealth and debt). Importantly, equal rights of citizens (e.g. as achieved through the French and American revolutions) is insufficient.

My take: I enjoyed the first 450 pages, which include a wealth of insightful data, analysis and interpretation. The literary references to Jane Austen and Honoré de Balzac add color to this economic story, especially the 19th century argument why one should marry rich instead of working to become even the best-paid professional. To economists, Thomas makes the excellent argument that the diffusion of information is critical but often overlooked in formal models. To the rest of us, the book calls for questioning “super” managers basically setting their own salaries and unqualified arguments that equal rights will naturally yield a society where success is earned, not inherited. Overall, this book is very important and informative for those who care about income inequality. But here is the problem: it does not do anything to help change the mind of those who do not.

In the last 100 pages, Prof. Piketty moves rather abruptly from a study of capital and inequality dynamics to his arguments for reducing inequality: a global tax on wealth. To win over opponents, he does not just need to show why such tax is the best alternative to reduce inequality, but also to make 2 points: (1) income inequality is a problem and (2) it does not help increase growth, a key parameter in the model. In my opinion, he does neither. To the first point, the French Amazon.com reviewer Gnarf writes: “For me Piketty fails to demonstrate income inequalities are a real problem, he simply assumes from the beginning this is the case. In the last decades the world income scale has stretched, but the lower incomes have steadily rised. In the last 20 years the extreme poverty has been reduced by half.” In other words, why is income inequality a problem if absolute poverty declined? Readers need to consult other texts for the answer, which Piketty should have at least devoted a few pages (out of 577) to this topic. For an excellent and humorous take, watch comedian John Oliver at http://www.youtube.com/watch?v=LfgSEwjAeno .

To the second point, growth is a key parameter in Piketty’s “fundamental inequality”, and everyone agrees it is better to have a bigger pie to share. The Economist review reads: “Mr Piketty asserts rather than explains why tempering wealth concentration should be the priority (as opposed to, say, boosting growth)”. Economists strongly disagree on the impact of inequality and of taxes on growth. Many argue that progressive (wealth) taxes removes the incentives of entrepreneurs to take risks and increase employment and question whether the government does a good job using tax revenues for the right causes. As reviewer Ludwig von Mises states: “The proper way is to “lift” those below by a high quality public education in professions, occupations and values, a system that enables social mobility, giving genuine growth tools”. While Piketty strongly favors better education and social mobility, he fails to show that (a) income inequality is bad for growth (and for the wealthy) and (b) taxes do not hamper growth. Instead, the IMF just released its study that income inequality makes growth more volatile and that “various efforts to redistribute incomes have a neutral effect on GDP growth” http://www.theguardian.com/business/2014/feb/26/imf-inequality-economic-growth

In sum, “Capital in the 21st century” is a good read but leaves many questions unanswered. One is the excellent challenge by my spouse and management faculty at Ozyegin University: how do we get from this 21st century reality to the Star Trek 24th century equality utopia? From the book’s framework, it would be growth through knowledge discovery and dissemination: just as the 18th and 19th century US was more egalitarian thanks to the brave new world to explore (and the low capital immigrants), we could discover unknown solar systems, catch up with (hopefully friendly) alien societies and lift the knowledge, participation and economic level of all of earth’s citizens. Our continuing mission….

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2 thoughts on “Capital and growth in the 21st to 24th century

  1. A well organised set of vital information with quite a lot examples; it impressed me to a greater extend.

    And I do want to appreciate for your work and the time you have putforth to get this article in its path.

    Thanks for sharing with us!!

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