Table of Contents:
- 5a. The Tendency of the Capital/Income Ratio to Increase Over the Long-Term
- 5b. Limits to the Growth of Capital (and the Capital/Income Ratio)
- 6a. The Unequal Distribution of Capital
- 6b. Why Capital Is Distributed Unequally (and Why This Inequality Tends to Grow)
- 13a. WWII (and Aftermath)
- 13b. The Fall of the Rich and the Rise of the Middle Class
The unequal distribution of wealth in the developed world has become a significant issue in recent years. Indeed, the data indicate that in the past 30 years the incomes of the wealthiest have surged into the stratosphere (and the higher up in the income hierarchy one is, the greater the increase has been), while the incomes of the large majority have stagnated. This has led to a level of inequality in wealth in the developed world not seen since the eve of the Great Depression. This much is without dispute.
Where there is dispute is in trying to explain just why the rise in inequality has taken place (and whether, and to what degree, it will continue in the future); and, even more importantly, whether it is justified. These questions are not merely academic, for the way in which we answer them informs public debate as well as policy measures—and also influences more violent reactions. Indeed, we need look no further than the recent Occupy Movement to see that the issue of increasing inequality is not only pressing, but potentially incendiary.
Given the import and the polarizing nature of the issue of inequality, it is all the more crucial that we begin by way of shedding as much light on the situation as possible. This is the impetus behind Thomas Piketty’s new book Capital in the Twenty-First Century.
One of Piketty’s main concerns in the book is to put the issue of inequality in its broader historical context. Specifically, the author traces how inequality has evolved from the agrarian societies of the 18th and early 19th centuries; through the Industrial Revolution and up to the First World War; throughout the interwar years; and into the second half of the twentieth century (and up to the first part of the twenty-first).
With this broad historical context we are able to see much more clearly the causes of inequality. As we might expect, what we find is that inequality is influenced by a host of societal factors—including economic, political, social and cultural factors. However, what we also find is that inequality is influenced by a broader set of factors associated with how capital works in capitalist societies (and market economies more generally).
Specifically, we find that capital (and the wealth it generates) tends to accumulate faster than the rate of economic growth in capitalist societies. What this means is that capital tends to become an increasingly prevalent and influential factor in these societies (at least up to a point). What’s more, wealth not only tends to accumulate, but to become more and more concentrated at the top (mainly because those with more capital are able to earn a higher rate of return on their capital investments). For these reasons, capitalism on its own tends to produce a relatively high degree of inequality.
The natural tendency of capital to accumulate and to become ever more concentrated largely explains the high degree of inequality that was witnessed in the developed world in the early part of the twentieth century. This inequality was largely dashed, however, in the interwar years. The reason for this is that the major events of the first half of the twentieth century (including the two world wars, and the Great Depression) thwarted capital’s natural tendency to accumulate, and also destroyed large stocks of wealth. The end result was that by the time World War II was over, inequality in the developed world had reached an all-time low.
After the Second World War, the natural tendency of capital to accumulate resumed. However, various political and economic measures (including progressive taxation, rent control, increasing minimum wages, and expanded social programs) worked to redistribute this growing capital, thus preventing inequality from growing as quickly as it would have otherwise.
In the 1980s, though, the developed countries did an about-face, and began eliminating many of the measures that had prevented inequality from rising according to its natural tendency. The consequence was that inequality reasserted itself in a major way, such that it is nearly as extreme today as it was on the run up to the Great Depression. Furthermore, the historical evidence indicates that capital will likely continue to accumulate and become ever more concentrated, such that we will witness an even greater level of inequality moving forward.
As far as justifying the growing inequality that we are currently seeing, Piketty raises serious doubts as to whether it may rightly be considered fair. What’s more, as inequality continues to grow, it is increasingly likely that large parts of the population will also come to see it as unfair and unjustified—thereby increasing the likelihood of political opposition.
For Piketty, the best and fairest solution to these problems would be to steepen the progressive taxation applied to the wealthiest individuals. The problem, though, is that in a world of financial globalization (where there is a high degree of competition for capital—as witnessed by tax havens), it is extremely difficult to apply the appropriate tax scheme without the cooperation and coordinated efforts of the international community—and this is simply not something that is easy to achieve.
The alternative, however, is much more troubling for it is likely that it will involve reverting to protectionism and nationalism—and this is really in no one’s interest.
Here is Thomas Piketty introducing his new book:
What follows is a full executive summary of Thomas Piketty’s Capital in the Twenty-First Century.
Before embarking on our discussion of the unequal distribution of wealth, it is important to begin by way of reminding ourselves where wealth comes from. In general terms, wealth comes from 2 main sources: that which is inherited, and that which is earned by way of income (the author excludes wealth accrued through theft and pillage, despite the fact that these do have some historical significance) (loc. 6571).
Income may be further broken down into two sources: income from labor and income from capital. As Piketty explains, “income consists of two components: income from labor (wages, salaries, bonuses, earnings from nonwage labor, and other remuneration statutorily classified as labor related) and income from capital (rent, dividends, interest, profits, capital gains, royalties, and other income derived from the mere fact of owning capital in the form of land, real estate, financial instruments, industrial equipment, etc., again regardless of its precise legal classification” (loc. 429).
Wealth that is accrued through any of the means mentioned above may either be spent or saved. That is, wealth may either be used to cover living expenses (which includes the purchase of durable goods, such as cars, furniture and appliances [loc. 3073]), or (re)invested in capital.
As mentioned in the quote, capital has a number of different forms, including savings and checking accounts; land and buildings (real estate); and stocks and bonds (financial assets). All capital assets yield a certain return on investment, though at different interest rates (this point will be returned to below).
Wealth that is used to cover living expenses evaporates, of course, and thus only capital may be considered wealth in the true sense—and Piketty does indeed equate wealth with capital (loc. 890-912).
Within any given nation, capital may be owned either by private individuals or the government (or a mixture of both), and thus the total amount of capital in any nation is equal to private capital (minus private debt) plus public capital (minus public debt) (loc. 912).
Now, capital is an integral part of any capitalist society, for indeed at least some of it is used to establish new entrepreneurs and businesses (and it is also used by existing businesses to expand their operations), and thus capital is an important precondition and driver of economic growth (we call this ‘dynamic’ capital) (loc. 1979, 6872). However, if and when capital accumulates and becomes concentrated in fewer and fewer hands, serious of issues of inequality are virtually inevitable.
And herein lies the problem, for it is Piketty’s contention that certain natural tendencies operating within capitalist systems ensure that, all things being equal, capital does indeed tend to accumulate and grow to significant levels, and to be concentrated in fewer and fewer hands—and in a way that is at odds with the meritocratic principles of democracy (loc. 584-88, 7348-53).
Let us unpack this argument one element at a time, beginning with the tendency of capital to accumulate.
The relative level and importance of capital within a society is best captured by the amount of capital as it relates to income (meaning net income from both labor and capital combined—including net income on foreign assets [loc. 815-28]). This is most appropriately expressed as the total amount of capital divided by the total yearly income, known as the capital/income ratio (loc. 455, 972). As the author explains, “income is a flow. It corresponds to the quantity of goods produced and distributed in a given period (which we generally take to be a year). Capital is a stock. It corresponds to the total wealth owned at a given point in time. This stock comes from the wealth appropriated or accumulated in all prior years combined. The most natural and useful way to measure the capital stock in a particular country is to divide that stock by the annual flow of income. This gives us the capital/income ratio, which I denote by the Greek letter β. For example, if a country’s total capital stock is the equivalent of six years of national income, we write β = 6 (or β = 600%)” (loc. 953).
To give you an idea of what the capital/income ratio is in different places in the developed world today, consider the following numbers: “in the developed countries today, the capital/income ratio generally varies between 5 and 6, and the capital stock consists almost entirely of private capital. In France and Britain, Germany and Italy, the United States and Japan, national income was roughly 30,000-35,000 euros per capita in 2010, whereas total private wealth (net of debt) was typically on the order of 150,000-200,000 euros per capita, or five to six times annual national income” (loc. 957).
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