Russ Roberts

Thomas Piketty on Inequality and Capital in the 21st Century

EconTalk Episode with Thomas Piketty
Hosted by Russ Roberts
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Continuing Conversation... Eli... Afterthoughts on Piketty...

Capital.jpg Thomas Piketty of the Paris School of Economics and author of Capital in the Twenty-First Century talks to Econtalk host Russ Roberts about the book. The conversation covers some of the key empirical findings of the book along with a discussion of their significance.

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0:33Intro. [Recording date: September 16, 2014.] Russ: Your book, Capital in the 21st Century, is a remarkable book, and it's received a remarkable amount of attention. I don't think there is a book since Keynes's General Theory that has generated as much interest. So, first, I want to say congratulations. Guest: Thank you. Russ: The book is an incredible collection of data, much of it done by you with various coauthors. And it's also a series of explanations for what's in the data. I want to start with what you consider the main empirical findings. What are they? Guest: Okay. Well, there are really several important empirical findings, because this is first of all a book about the history of income and wealth distribution over 20 countries over 3 centuries. So, it couldn't be that this can be summarized with just one evolution or one mechanism. There are many different sources, sometimes contradictory, that are going on. And I really first want to stress that the primary purpose of this group is to put together the vast quantity of empirical data that I could never have collected on my own, and that was collected with several dozen scholars, Tony Atkinson, Emmanuel Saez, Stefanie Stantcheva, Gabriel Zucman--many scholars from many countries. And the primary purpose of the book is really to make this material accessible, to try to tell a story in plain language that allows everybody and certainly economists to access the historical material so that people can make up their own mind about the future, about the explanation. I certainly do not claim the ultimate explanation for everything. We know a little bit more than we used to, but we still know far too little. So, one of the key patterns and one of the key evolutions that I have learned about in this research is the following. We've seen in most developed countries and important reduction in inequality in the first half of the 20th century. And then, starting somewhere in the 1970s or 1980s, depending on the country, we've seen an important rise in income and what is inequality. And this reflects really different mechanisms. Some have to do with inequality of labor income. And some that have to do with the inequality of wealth. And both are important. To a large extent what the book is trying to do is to shift the attention from the inequality of labor inequality to the inequality of wealth, which is a very long-run idea. Even more important; but really both evolutions are important and involve different mechanisms. So the rise in the inequality of labor income, which has been particularly strong in the United States and somewhat less strong in Europe and Japan, you also find it there; it's usually analyzed in terms of changing patterns for the supply and demand of skill, the impact of globalization, competition with emerging countries. And this is certainly part of this explanation. But one of the points I make in my book is that this cannot be the entire explanation, because a very large part of the rise in labor income inequality in fact has to do with the very, very top incomes, you know, the risk of very top managerial compensation, the top 1% or some tiny, even .01%, earnings, typically executives in very large corporations. And that's difficult to explain just on the basis of supply and demand for skill because it's not the top 1% labor earners are a lot more educated than the next few percent. So if you really want to explain it, and that's what I do in the book using joint research with Emmanuel Saez and Stefanie Stantcheva, you have to look at the transformation of the institution governing the base-setting process at the very top of large corporations. And to summarize very quickly our conclusion, we feel that the theory of marginal productivity is a bit naive, I think for this top part of the labor market. That is to say when a manager manages to get a pay increase from $1 million a year to $10 million a year, according to the textbook based on marginal productivity, this should be due to the fact that his marginal contribution to the output of his company has risen from 1 to 10. Now it seems a bit naive. It could be that in practice individual marginal productivities are very hard to observe and monitor, especially in a large corporation. And there is clearly strong incentives for top managers to try to get as much as they can. And the change, very sharp change in the tax progressivity that has happened in the United States since the 1970s, 1980s probably changed quite radically the incentives for top managers to try to do as much as they can to get this pay increase. Russ: You are talking about the reduction in marginal tax rates. Guest: Right. Exactly so. Russ: And your argument in the book is that this meant that if you could get a raise you could keep more of it than you would before. This is the opposite of what standard economic theory would predict, which is decreases in marginal tax rates should actually lower pre-tax income but increase after-tax income. But you have a different model, then, of what determines pay. Guest: Well, in the standard model when you cut the marginal tax rate, people react by working more, being more productive. And this should raise income. Now, this is one possible channel. But what we find in the data is that there could be another channel, which is simply that you are going to bargain more aggressively for bigger pay. So, to be very concrete, when the top income tax rate in the United States between 1930 and 1980, which is a very long period of time, was on average 82%. That's a [?] level. You had periods when it was 91%, periods when it was 70%. On average it was 82%. Now, when the top tax rate is 82%, now of course you always want to be paid $1 million more, but on the margin when you get a pay increase of $1 million, 82% is going to go straight to the Treasury, so your incentive to bargain very aggressively and put the right people in the right compensation committee are going to be not so strong. And also your shareholders, your subordinates, maybe will tend to tell you, look, this is very costly. Whereas when the top tax rate goes down to 20, 30% or even 40%, so you keep 2/3rds or 60% of the extra $1 million for you, then the incentives are very, very different. Now, this model seems to explain part of what we observe in the data. In particular, it's very difficult to see any improvement in the performance of managers who are getting $10 million instead of $1 million. When we put together a data base with all the publicly traded companies in North America, Europe, Japan, trying to compare in the companies that are paying their managers $10 million instead of $1 million, it's very difficult to see in the data any extra performance. And if anything what you see given the elasticity of top managerial pay with respect to profits of the company is actually higher for the variations in profits that have nothing to do with individual performance or for instance when you have industry-wide changes in profits or shocks to the terms of trade or other macro parameters that affect the profitability of your business, then the elasticity of the top managerial pay is even higher. So we truly suggest that basically when you have more cash on the table you tend to take it, particularly in countries and time periods where the tax rate is lower. Russ: Steven-- Guest: Anyway, that's one of the mechanisms [?]--
10:24Russ: Let me ask you about that. Steven Kaplan, who was a guest on EconTalk a while back, in his work with Joshua Rauh on the top 1%, they argue that because the gains are very similar in the top 1% across sectors--so that the corporate sector does get higher pay, but so do the non-corporate sector--lawyers, athletes and others in the top 1% have similar increases--that it's hard to believe that it's corporate governance, failure of corporate governance to bargain appropriately with top managers. What do you think of their work? Guest: Well, I think the top managers are in fact a much, much bigger fraction of the top 1%, the top 0.1%, than athletes and movie stars and such professions. So in fact, I do believe that most of the action comes from top executives in large corporations. I think one reason why Kaplan and his coauthors don't see it that way is that they only count the top 5 earners in large corporations. But in large corporations it's actually a lot more than 5 people that are making it to the top 1% or even to the top 0.1%. So they actually don't have the data because they only use publicly released data and the top 5 earners in each corporation. But if you use the tax return file where you have the entire universe of income earners and wage earners in the United States, then in fact you can see that top executives broadly defined, all those that make--you know, if you want to be the top 1% you have to make more than $400 or $500 thousand dollars; if you want to make it to the top 0.1%, $1 million, $5 million depending on which share you look at. But if you take such thresholds you will see that top executives in large corporations are indeed driving the process. One limitation--another limitation in the data they are using is that they basically only look at the United States. So, I think the United States is a very interesting country of course, but I think the rest of the world is interesting also. And in order to understand what are the true reasons for what we observe, I think that the cross-country perspective is important. Because it's very difficult to explain--one reason where it's so difficult to explain the data simply with the skill-based, talent-based story is that it's hard to understand why it would happen so much in the United States and much less in Germany or Japan or Sweden. Russ: One explanation would be that combined with globalization, U.S. corporations tend to be larger. And there have been studies that find that there's a correlation between compensation and size of firm. Guest: Well, no. If you look at international data and you control for size, you still have the main part is less than explained. So the main part of the extra inequality that you find in the United States is less than explained. So this is what we do in a paper with Emanual Saez and Stefanie Stantcheva, it was published in the American Economic Journal earlier this year in 2014, and as far as I know this is the first paper in taking a cross-country perspective and top pay setting. And we do have control for some size; we do have control for industry. So, you know, it's not that you have bigger companies in the United States, it's not that you have more financial companies in the United States or the United Kingdom that's going to be enough to explain the particularly strong rise in the inequality in those two countries, particularly in the United States. We put these controls in the regression, and what we find is, what matters much more is the change in the top tax rate over time in these different countries. But, you know, I think these cross-country analyses are more complete than other analyses of this sort, but I certainly do not claim that this is the final word. I think the supply and demand for skill explanation, globalization explanation, also matters. I think we don't have to choose between the two. I think that the two are important. I just think that for the very top end, institutional forces are probably even more important.
15:16Russ: Well, we'll come back to this, because I want to come back to the United States in particular in the labor inequality; but I want to make sure we get to the wealth inequality issues. You write that r > g is the central contradiction of capitalism. Explain what r and g are, and why their relative size is important. Because that's really one of the central themes of the book, that runs through the entire book. Guest: Right. So, my book is trying, as I say, to shift attention from rising inequality of labor income to rising wealth inequality. And indeed, in order to analyze the long run evolution of wealth concentration, there is one central force that I emphasize, which is the tendency of the rate of return to capital to exceed the economy's growth rate. So, what are we talking about? So, r is the rate of return on capital, which is what is the return that you get in one year on your capital investment. So, the easiest form of capital earning[?] would be, imagine you own an apartment, on average worth $1 million. What is going to be the rental value during one year? So, if the rental value is $40,000 during your year, then that would be a return of 4%. Now, when you invest your money on the stock market, which is typically a more risky investment than housing, the return in the long run is typically bigger than that--it could be 6%, 7%. So of course it's very volatile across assets. It's not just saying for the different assets, but typically it can be 4%, 5% or more for more risky investment. The growth rate of the economy is a completely different concept. So, the growth rate of the economy in the long run reflects, first, the growth rate of population, so how much population is increasing. And next, the growth rate of productivity; so this is the growth rate of per capita GDP (Gross Domestic Product)--how much the output per inhabitant is rising due to the rise of productivity, technical knowledge. So the growth rate of the economy is determined both by demographic forces, by innovation, and of course the forces have not much to do with the forces that determine the rate of return to capital, which are primarily how useful capital is for production. And there's no reason why r and g should be equal. And in practice, what we observe, and we can talk a lot more about why we observe this, is that in the long run, there is a tendency for r to exceed g. Which means something very concrete. So let's take an example. Assume r is 5% a year and g is 1%. What does this mean? This means that if you own a lot of wealth to begin with, then you can consume 4/5ths of the return to your capital and you can reinvest only 1/5th of the return, so 20%. And this will be enough to ensure that your wealth will rise at the same speed as the size of the economy. So this is a very nice situation for initial owners of wealth in the sense that you can sustain a high living standard, reinvest only a small part of your income and still your wealth and the wealth of your family, your successors, can rise as much. Now, that does not imply that inequality will rise to infinity, because people indeed will typically consume part of their return to their wealth. There will always be-- Russ: Sometimes they give it away. Guest: Sure. So there will always be some ability in wealth, because some people give it away, some people have many children, some people have too few children, some people die too late, some people die too soon, some people make crazy investments, some people make very good investments. So, you know, you will always have some mobility. But other things equal, bigger gap between r and g will lead to an equilibrium distribution of wealth that is more unequal and that will involve more reproduction over time of inequality. Okay? So the bigger r-g, the more inequality, the less mobility. And of course there are many other forces that are important. The saving behavior, are you going to give it away, the demographic behavior, do the rich have more children than the poor, how do the financial markets operate, or for instance financial deregulation in recent decades probably increased the inequality in rate of return for people with different wealth levels. From the data that we have and analyze in the book, for instance for large university endowments, it looks as if the bigger your endowment, the more you are able to access to sophisticated financial product or financial derivatives, etc. that give you some time a much bigger return than the typical middle class families sometimes getting pretty lousy returns. So the inequality in return around the average return is also going to play a big role. But taking all of this, all the factors as given, the bigger the gap between the average rate of return and the economy's growth rate will tend to lead to greater inequality. And what I argue in the book and what I have shown using historical data is that this is probably one of the key forces explaining why historically wealth concentration has been so large in most societies and most civilizations, actually until WWI. If you take in particular most European countries, you have very, very large concentration of wealth well until WWI. And what I argue using historical materials that I found, especially for France and Britain, is that the fact that, historically, it was the fact that the rate of return was bigger than the growth rate was pretty [?] during most of human history simply because the growth rate was close to zero. So during most of the until the Industrial Revolution the population was almost stationary. Productivity was rising very, very slowly. So the total growth rate of GDP was less than 0.1 or 0.2% per year. So, of course, the rate of return was a lot larger than that. Typical rental value to land or to buildings would be at least 3% and generally 4 or 5%. So that's a lot bigger than 0.1%. And now with the Industrial Revolution in the 19th century you have of course a rise in the growth rate. But at the same time the rate of return to capital is also rising, somewhat because you have new investment opportunities, new forms of capital accumulation. So maybe growth rate goes from 0 to 1%, in per capita terms and the rate of return goes from 4-5 to 5-6, sometimes 7%. So at the end of the day the gap between the two is not very strongly affected. And it's important to realize that the growth rate in the very long run is typically not 5%. The only time in history where you observe a growth rate of 5% or above 5% are countries that are catching up with other countries. So typically Germany or Japan or France in the post-war period are growing faster than 5% per year. But this is just because in 1945, you know, these countries have very low GDP, so they have to catch up in particular with the United States. Or today China is catching up with the rest of the world so they have very fast growth rate. But when you are at the world technological frontier, there is no example of a country where per capita GDP growth is higher than maybe 1.5%. So some people think it's even less than that in the very long run. In any case, there are reasons to believe that we might again, have in the 21st century this inequality of developed countries and maybe also in emerging countries when they will have completed this catch-up process, we will have this inequality between r and g. Together with the final [?] that has increased inequality in r, this is one of the mechanisms that can contribute to explain relatively high and rising inequality of wealth.
24:43Russ: Okay, so let me raise some issues I think are relevant. First, it's clearly true that if I save all my income and I don't eat anything and I don't give any of it away and have lots of children--I have one child, say--that that one child will have gotten an enormous extra benefit from the fact that the parent can invest the money at r. That child will have an advantage over a wage earner who doesn't have any access to capital. It seems to me though that in the 20th century--in the 20th century, and a little bit in the 21st--first there is an increased access to capital by the general public in the form of retirement plans and stock programs and low-priced opportunities to invest in equity, in particular indexed mutual funds. And the real question though, is, why should I care? Let's talk philosophically. And by the way, the r you are talking about is risky, of course, the average rate. So it's not always true that the rich are able to just get this risk-free rate. It's not risk free. But let's talk philosophically for a minute. There are a lot of people who are wealthier than I am. A lot of them didn't earn it. Sam Walton, who founded Walmart, 4 of his either relatives or descendants are in the top 10 of the Forbes 400; they are 4 of the richest of the 10 richest Americans right now. Steve Jobs or his descendants--they are doing better than I am. They have a lot more access to money than I do. And there are people with less than I have. Why should I be concerned about that? In particular, do you see any role for the accumulation of capital to help people other than those who hold it? Is there any worry that your interest in reducing capital concentration could affect the growth rate? Because you don't seem to suggest any connection between the two. So those are a lot of questions there. Sorry. Take a shot at it. Guest: Yes, you say so much that I don't know where to start. But let me make clear that I love capital accumulation and I certainly don't want to reduce capital accumulation. The problem is the concentration. So let me make very clear that inequality in itself is of course not a problem. Inequality can actually be useful for growth. Up to a point. The problem is when inequality of wealth and concentration of wealth gets too extreme, it is not useful any more for growth. And it can even become bad, because it leads to high perpetuation of inequality over time, so it can reduce social mobility. And it can also be bad for the working of our democratic institutions. So where is the tipping point--when is it that inequality becomes excessive? Well, I'm sorry to tell you that I don't have a mathematical formula for that. Russ: At least you are honest. Guest: All I have, all we have, collectively, is historical evidence. And all I do in my work is put together a lot of historical evidence to see what we can learn about the location of the tipping point. So, what can we learn about the location of the tipping point? Let me tell you a couple of things we can learn. First of all, the kind of extreme concentration of wealth that we had in every European country until WWI, I think was not useful. It was excessive. At that time, there was a lot more concentration than what we have today in Europe and even more than what we have today in the United States. Basically there was almost no middle class, so 90% of the wealth would belong to the top 10%. Now, whether it's useful for growth--there's very little evidence for this claim. If you look at the evidence we have, you have a huge reduction in concentration following WWI, the Great Depression, WWII also, following the public policies: universal education, the welfare state, progressive taxation that were adopted from these shocks. Now, were these bad for growth? No, it was not bad for growth. If anything, growth in the post-war period has been higher than what it has ever been. And even today although it is not great it is of the same order order of magnitude or actually better than what we had in the 19th century, early 20th century. And the reason is simply that the middle class, the fact that we have significant share of wealth that does not belong to the top 10% and that belongs to a broad middle class that have access to wealth. It's certainly not bad for growth. So, inequality above a certain point is just not useful any more. So I think we don't want to return to this kind of extreme form of inequality. And I think at some abstract philosophical level, everybody agrees that inequality is acceptable as long as it is in the common interest, or as long as it benefits all of society through more innovation, more growth. Now, right now, if you look at the data we have on wealth dynamics one striking finding that I put forward in my book is that, you know, first I think what we need is we need more transparency about wealth. We know too little about wealth dynamics and you know, one of the reasons why I am in favor of wealth tax and we can talk more about that, is that this will produce more transparency, more data on wealth dynamics. But for now we need to do with what we have, and what we have are typically Forbes's ranking of wealth in the United States or similar rankings in the rest of the world. Now, if you look at these data, what you find is the following. Over the past 30 years, if you start in 1987 which is when Forbes started producing their global wealth ranking, and you go until 2013, what you find is that the top wealth holders--usually what people do is just to say, okay, you have more and more billionaires in the world, we know, in a growing world economy is not too surprising. So what I do is a little bit more sophisticated. You take a big fraction of the world population again and you have a rising world population, but you take a few percentage at the very top and you look at the evolution of the average wealth of this group. And you compare to average growth of the world economy. So of course this group, as you mention very rightly, is not made of the same people. There is a lot of mobility. The world billionaires of 1987 and those of 2013 are not the same. But still it's interesting to look at how the average wealth of this group is changing because if we were in an equilibrium of the world distribution of wealth, you know in principle, you have some mobility--some people go down, some people go up. But on average the average wealth of this group should be rising approximately at the same speed as the size of the world economy. I'm not saying it should rise exactly at the same speed, but it should be comparable rate of growth. Not this is not at all what you observe. So, according to the data we have from Forbes's global wealth ranking, these very top groups have been rising at 6-7% per year for that period. Now, world GDP has been rising at 3, 3.2% per year over the period. But in fact half of it is due to population. So if you take per capita income at the world level and per capita wealth at the world level, it has been rising at 1.5-2% per year. So in other words your top is rising 3 to 4 times faster than the average. Now of course this cannot continue forever. And I'm not saying this will continue forever. You can see that if it was to continue forever--if the top was to rise 3 to 4 times faster than the size of the world economy forever, then 30 years from now you will have close to 100% of world wealth belongs to a little group of billionaires. And you know some of them are U.S. billionaires, some of them are Russian oligarchs-- Russ: Sure-- Guest: Lots of people. Russ: Some of them-- Guest: You know, 100% would be too much. So I think you agree with me that this cannot continue forever and actually it will not continue forever. Russ: [?] Guest: The question--well, you agree that you cannot have forever the top rising 3 or 4 times faster than the average. Even if you have mobility, even if these are not the same people, from a purely logical perspective this cannot continue forever.
33:31Russ: Right but the-- Guest: You agree with that. Russ: But the question is: What's the underlying causal mechanism? And let's take two examples, one of which is very mundane and one of which is not mundane. So, the Waltons, who we talked about before, who were not there in 1987 but are there now, they changed retailing in the United States and probably in the world; and they made it easier. They figured out ways to deal with inventory and to control costs using technology-- Guest: Sure. You are right. I agree with you. Russ: And they made millions of people better off. And they got richer being in the top 1% than the people before them. Guest: You know, I exactly agree with you. There is no problem with that. But still-- Russ: So they made the world a better place. Guest: I am asking you the question again--can I ask you a question? Russ: Do you agree that they made the world a better place? Guest: Oh, yeah, of course. Of course. Russ: Okay. Go ahead. Guest: Much better place. And Bill Gates as well, as well as lots of entrepreneurs in the world, which are extremely useful, of course. Who can deny that? But still, even if, you know, these people were all different entrepreneurs each year and that are very useful for the world, do you agree that the average wealth of the top cannot grow forever 4 times faster than the size of the world economy? Russ: I don't think that's the relevant question. The relevant question is-- Guest: No, no, but look. It's a very simple logical question. And of course so let me try to [?]-- Russ: Well, I think they can get-- [?] They can get an ever increasing share. The fundamental question is: What's the value to the rest of us as they get an ever increasing share? And if their increasing share is coming from an increase in technology and globalization--which is limited--that will slow down. The globalization will slow down. So the ability to capture large amounts of wealth relative to the past Guest: Well, I think you are remarkably optimistic about natural forces, and this is great. I love market forces as well. But I think at some point it's important to look at the numbers. And when a group is growing 3 to 4 times faster than the average, just simple computation, simple logical computation which show you that in 30, 40 years, the share of national wealth going to a very tiny group can get enormously high. So, let's be again-- Russ: But there's-- Guest: concrete about what are the wealth shares. Let's be very concrete. Let's take the United States. In the United States right now, the bottom 50% of the population own about 2% of national wealth. And the next 40% own about 20, 22% of national wealth. And this group, the middle 40%, the people who are not in the bottom 50% and who are not in the top 10%, they used to own 25-30% of national wealth. And this has been going down in recent decades, as shown by a recent study by Saez and Zucman and now is closer to 20, 22%. Now, how much should it be? I don't know. I don't know. But the view that we need the middle class share to go down and down and down and that this is not a problem as long as you have positive growth, I think is excessive. You know, I think, of course we need entrepreneurs. I'm not saying, look, if it was perfect equality the bottom 50% should own 50% and the next 40% should own 40. I am not saying that we should have this at all. I'm just saying that when you have 2% for the bottom 50 and 22 for the next 40, you know, the view that we cannot do better than that although why is you won't have entrepreneurs any more, you won't have growth any more, is very ideological. Russ: I don't dispute that-- Guest: And therefore is not at all consistent with historical evidence we have, which is that some inequality is useful for growth. Look, you know, the problem is that the growth performance in recent decades of the U.S. economy and marginally of developed countries has not been particularly good. If you look at per capita GDP-- Russ: Agreed. Guest: in the United States between 1980 and 2010, you have 1.5%. So if it was a 5% growth rate, maybe it would be worth a declining middle class share. But if you have 1.5% growth rate and the share going to the middle class and the bottom is reduced, then is this a good deal? Russ: I'm only saying-- Guest: Is this the best we-- Russ: I'm only saying it's misleading to look at the share, because I partly care--mostly care, actually--about whether the wellbeing of people is increasing and not their particular share of the pie. The pie is getting bigger-- Guest: Well, I think a solid middle class you know is important for the economy and for the democracy. I think society, European societies again in the 19th century, it was less extreme in the United States at that time because of a growing population, new immigrants. So you had less of sort of a big accumulation of family wealth or [?] in this case. So it was less extreme in the United States. But speaking from Europe, I can tell you that the kind of extreme concentration of wealth you had in Europe until WWI, you know it's not good. It's not useful for the economy when it is so extreme. Russ: I agree. Guest: It leads to perpetuation over time of inequality. And it's not good for democracy. You know, I think a middle class having access to wealth and showing that this is not contradictory with economic efficiency--that's important for our society in general.
39:14Russ: I don't disagree with any of that. Well, maybe--well, I agree with most of that. I think it's perfectly legitimate to argue what I've tried to argue and then still believe that we should have a large tax. I'm not in favor of it, but I understand the point about incentives--the effects may be small. I'm just trying to get at the mechanics, because I think it matters a lot for why inequality has risen. So, for example, if somebody has gotten wealthy because they've been able to be bailed out using my tax dollars, then I would resent that. But if somebody is wealthy because they've created something marvelous, then I don't resent it. And my argument is that when we look at the Forbes 400, or the top 1%, many of the people in their, their incomes, their wealth has risen at a greater rate than the economy as a whole not because they are exploiting people, not because of corporate governance, but because of an increase in globalization that allows people to capture--make more people happy. Make more people--provide more value. My favorite example is sports. Lionel Messi makes about 3 times--the great soccer player, the great footballer, makes about 3 times what Pele made in his best earning years, 40 years ago. That's not because Messi is a better soccer player. He's not. Pele, I think, is probably a better soccer player. But Messi reaches more people, because of the Internet, because of technology and globalization. You can still argue that he doesn't need $65 million a year and you should tax him at high tax rates. But I think as economists we should be careful about what the causal mechanism is. It matters a lot. Guest: Oh, yes, yes, yes. But this is why my book is long, because I talk a lot about this mechanism. And I talk a lot about the entrepreneur, and the reason there is a lot of entrepreneurial wealth around, but my point is certainly not to deny this. My point is twofold. First, even if it was 100% entrepreneurial wealth, you don't want to have the top growing 4 times faster than the average, even if it was complete mobility from one year to the other, you know, it cannot continue forever, otherwise the share of middle class in national wealth goes to 0% and you know, 0% is really very small. So that would be too much. And point number 2, is that when you actually look at the dynamics of top wealth holders, you know it's really a mixture of, you know, you have entrepreneurs but you also have sons of entrepreneurs; you also have ex-entrepreneurs who don't work any more but their wealth is rising as fast and sometimes faster than when they were actually working. You have--it's a very complicated dynamics. And also be careful actually with Forbes's ranking, which probably are even underestimating the rise of top wealth holders and you know, there are a lot of problems counting for inherited diversified portfolios. It's a lot easier to spot people who have created their own company and who actually want to be in the ranking because usually they are quite proud of it, and maybe rightly so, than to spot the people, you know, who just inherited from the wealth. And so I think this data source is very biased in the direction of entrepreneurial wealth. But even if you take it as perfect data you will see that you have a lot of inherited wealth. You know, look: I give this example in the book, which is quite striking. The richest person in France and actually one of the richest in Europe, is Liliane Bettencourt. Actually, her father was a great entrepreneur. Eugene Schueller founded L'Oreal, number 1 cosmetics in the world, with lots of fancy products to have nice hair; this is very useful, this has improved the world welfare by a lot. Russ: Pleasant. It's nice. Guest: The only problem is that Eugene Schueller created L'Oreal in 1909. And he died in the 1950s, and you know, she has never worked. What's interesting is that her fortune, between the [?], between 1990 and 2010, has increased exactly as much as the one of Bill Gates. She has gone from $5 to $30 billion, when Bill Gates has gone from like $10 to $60. It's exactly in the same proportion. And you know, in a way, this is sad. Because of course we would all love Bill Gates' wealth to increase faster than that of Liliane. Look, why would I--I'm not trying to--I'm just trying to look at the data. And when you look at the data, you would see that the dynamics of wealth that you mention are not only about entrepreneurs and merit, and it's always a complicated mixture. You have oligarchs who are seated on a big pile of oil, which you know, I don't know how much of it is their labor and talent but some of it is certainly direct appropriation. And once they are seated on this pile of wealth, the rate of return that they are getting by paying tons of people to make the right investment with their portfolio can be quite impressive. So I think we need to look at these dynamics in an open manner. And when Warren Buffet says, I should not be paying less tax than my secretary, I think he has a valid point. And I think the issue, the idea that we are going to solve this problem only by letting these people decide how much they want to give individually is a bit naive. I believe a lot in charitable giving, but I think we also need collective rules and laws in order to determine how each one of us is contributing to tax revenue and the common good. Russ: Well, the share contributed by the wealthy in the United States is relatively high. You could argue it should be higher. As you would point out, I don't really have a model to know what that would be. But real question for me is the size of government. If there's a reason for it to be larger, if money can be spent better by the government, that would be one thing. And again, the other question is what should be the ideal distribution of the tax burden.
45:36Russ: Let's talk a little bit about the middle class. Because my real point about the Forbes 400, or wealthy entrepreneurs, is that it is their contributions, their innovations, that have made our lives better. And that's a good thing. And the fact that their income is growing faster, their wealth is growing faster than the average is a sign of just how much more they've created. They've created wealth. They haven't expropriated it. So in your world, the change in the middle class, which you talk about quite a bit in the book, what explains the growth in the middle class in that 1950-1980 period, or the 1914-1980 period? Guest: That's an interesting and complicated question. I think in a number of countries, war has induced very large shocks to top wealth holders. And even in the United States, even though there was no destruction on U.S. soil, the Great Depression was a major shock to top wealth holders. These shocks and destruction of top wealth holdings are part of the explanation. Now, another part of the explanation are the institutions, policies that were put in place-- Russ: How do average people get wealthy or better off by rich people doing badly? What happened there? What's the mechanism? Guest: Oh, the simplest mechanism is that if you have a destruction of wealth, the rate of return to wealth is going to increase, and you know, this creates space for accumulation from people who start from less wealth or zero wealth and that work for labor incomes they can invest. So think there was a rise of new managerial elites and new groups of wealth accumulators in the post-WWII era, partly most in Europe and the United States because some of the former elites had lost their position. The other part of the explanation is a very fast growth rate of the post-war period, which allows labor income earners to accumulate you know it's easier to catch up with higher wealth holders when you have higher growth rates, so it's easier, r vs. g logic: when you have, you know in the post-war period if you take Germany or France or Japan you have 5% growth rate per year. So wealth accumulated in the past is less important and the new wealth out of new savings is a lot more important. So high growth is part of it. And also tax systems become more progressive as compared to pre-WWI period, implies that there is, the tax system is eking[?] less out of the middle class and the bottom groups and out of the [?] group, which again contributes to more wealth mobility and more accumulation of wealth for the middle and the bottom relative to the concentration at the top. You know, what's interesting is that in the recent period the growth rate both in the United States and in Europe in the past 20 or 30 years has not been terribly good. It has actually been quite mediocre. So top wealth holders are rising 3, 4 times faster than the average--if this had been happening forever of course would we have a very different distribution of wealth than we have today. So when you say this is a condition for having growth, my reaction is: Well, okay, but except that growth has not been very good. And in that period in the past where growth was [?] better, without the top rising 3 times faster than the average. So you can see that this is not the only possible equilibrium. I think it depends on a number of policy trajectories[?]. It also depends on circumstances like war, the baby boom, which you cannot easily affect or actually you don't want to affect. This also depends on policy trajectories[?]--the labor[?] of tax progressivity, the period of time when you have most tax progressivity will also period of with reducing inequality and influencing[?] higher growth than what we have today. And so that's one policy dimension that can play a role. I think financial deregulation has also, as I said earlier, increased has contributed to the rise in inequality, both because of very large bonuses in the financial sector, benefit to the real economy that has not been always very clear[?], and also because financial deregulation has probably contributed to actually rising inequality in access to high yield investment. Russ: One thing-- Guest: And so these kind of institution rules do matter a lot in inequality dynamics. Russ: One thing we agree on is that it's not just deregulation of financial markets but also government coddling and subsidizing of investors has certainly artificially boosted the share of the top 1%. Which I'm very opposed to. And it's gotten worse in the last 5 years than it was before.
51:16Russ: One example you give in the book is increases in the minimum wage. You talk about different policy examples. So, you point out that in France the minimum wage has risen steadily since 1970 in real terms. And it's been flat or falling in the United States. But one of the things I worry about is I think that's a very bad way to reduce inequality. We know that in France the unemployment rate among the least educated people has risen dramatically over that time period. So the reduction in inequality that you champion because of the French policy may simply be because people have dropped out of the labor force and aren't able to be observed in the data. Do you worry about that? Guest: Yes, sure. It's all a matter of proportion. You know, I don't champion any country. I love all countries. There is a lot to learn from every national experience and I am not here to defend any particular country or any particular policy. I think it's all a matter of proportion. It's like progressive taxation. There is a minimum wage--can be useful. But of course if you increase it too much then it is going to create unemployment. So it's all a matter of proportion. What I find striking in the U.S. case is that the [?] thing that view of the minimum wage is now at the federal level is now smaller than what it was in the 1960s, which was 50 years ago. And at that time there was actually less unemployment than what you have today. And this is quite striking. If during half a century you cannot increase at all the minimum wage, at least you would expect that this is because it allows you to have a job for everyone. But in fact, no. You have more unemployment today than 50 years ago. So, what are we doing exactly? Maybe, I think we could increase the minimum wage in the United States at least by some amount. Russ: We have a very bad [?] system. Guest: Now I also agree with you--I also agree with you that you cannot do that too much. So at the end of the day, the main policy to reduce inequality is not progressive taxation, is not the minimum wage. It's really education. It's really investing in skills, investing in schools. And this is what I say from page 1 in my book. From page 1 in my book I make very clear that the primary mechanism to reduce inequality in the long run is diffusion of knowledge, diffusion of skills, diffusion of idea of productivity. This is what can explain convergence at the international level-- Russ: Correct. Guest: with emerging countries catching up with [?] countries. And it can also lead to a reduction of inequality within countries, assuming we have educational institutions that are sufficiently inclusive. And from that viewpoint what I find [?] puzzling in the recent evolution and in [?] the United States, is that if you look at the average income of the parents of Harvard and [?] students, this corresponds to the average income of the top 2% of the U.S. distribution of family income. So, it doesn't mean that you have no student below the top 2, but this means that you have very few students below the top 2; and that those who come from the top 2% are sufficiently high up, the top 2 percent; so that the overall average when you [?] the top 2 percent those who [?] as if you were to take it from your students just from the top 2% of the family distribution [?]. Now I think this is quite far from the meritocratic ideal that we all have in mind. I believe it. And I think this is a major challenge for the United States, and also for every country. Let me say very clearly that I'm certainly not going to tell you that the French university system is a system to follow. I'll be very clear about that. So I think the United States has been very good at producing very efficient top universities, but has been less good at promoting equal access to higher education. The average quality--the bottom 50% of the U.S. population does not quite have the high quality training that one might hope. But I think no country in the world, certainly not in France or nowhere in Europe or Japan has found the perfect system to combine efficiency with equality of access to higher education. So I think this is a major challenge for every country. There is a lot to learn from looking at these comparative data. I think every country, including France and the United States, often pretends to be more meritocratic than they really are. And I think people sometimes just don't look at the data. And again, this is as bad and sometimes worse in France than in the United States. So I am not trying to say-- Russ: The United States has a very large public university system, but studies have shown that it tends to benefit high income people as well. So that's a subsidy that is ultimately I think very misplaced. We also have a very poor education system before college, which I think has handicapped low income people from low income households.
56:37Russ: We're almost out of time. I want to raise a couple of issues about the American data and get your response. One of the things you ignore, and everybody ignores when they look at the change in the share going to the top 1 or top 10%, say between 1980 and the present where it starts to rise very dramatically in your data, are two things that I'd like to hear you react to. One is: demographics have changed dramatically over that time period. There's an enormous increase in the divorce rate that begins in the 1970s and continues through the 1980s. As a result the number of households rises much more quickly than population. And since the divorce rate is higher among low income households than high income households, you are going to get a rising share to the top 1 or top 10% simply for that demographic reason. Similarly changes in tax laws encourage people to take income in the form of personal income rather than corporate income starting in 1986. So, when I look at your data, the trend, though it looks "frightening," because of the increasing share, some of that is a statistical artifact. Do you agree? Guest: No, I disagree with this statement, because in fact, if anything I think top managers are getting even more nontaxable perks like, you know fancy jet or big officers or fancy cars or beautiful hotels and restaurants today than what they did in the 1960s or 1970s. So the view that there was as much inequality in the 1960s than you have today but that people were getting it through fancy cars where at least today they are just getting cash but they have become very virtuous regarding nontaxable perks and fancy jets, I think this is just wrong. Russ: I'm talking about the increase from 1980, though-- Guest: I think if anything we see this seems to be complementary. This seems to be complementary. In the long run I think you see an increase both in cash compensation and in non-cash perks and benefits. So I think-- Russ: It's not non-cash. It's how I declare it. If I have a small business, it's now, starting in 1986, it's advantageous for tax reasons to call that income rather than corporate profit and take it in the form of capital. So, the labor share artificially rises in the 1980s. Guest: Right, but this you should see it in capital gains a bit later. Because you know when you have a lot of retained earnings within your corporation, at some point you will want to cash capital gains out of that and so we do take into account this through capital gains, which is a big part of the whole picture. I'm not saying that the change in tax law to not matter for how people reap those income. Of course it does matter. But if anything I think the overall trend would look bigger if we could take into account all the nontaxable forms of compensation. Russ: You want to react to that demographic point? Guest: Regarding the demographic point: yeah, I think you are right. I think this can contribute to rising inequality. Also, it's a very tough--this is not really what is really explaining the very big rise in the top share. And also we should not forget that when you have a married couple, sometimes you have a lot of inequality within the family, how money is allocated and who decides how to spend the money. And this is very complicated to look at but there are studies in developing countries and also in developed countries showing that if you really look at how the money is spent within households the poverty rates and inequality indexes can look very, very different. So, in other words, a woman in married couples can be a lot poorer than what it seems if you just divide by 2 the income. Because sometimes the division of poor and the division of-- Russ: Sure. But there are a lot of-- Guest: How you decide what to spend the money is not exactly equal [?] Russ: But there are a lot of households in America living in the highest income areas with two high-earning doctors, lawyers. That's an increasing phenomenon. I don't know whether that gets into the top 1%. Certainly it gets them into the top 10%. Guest: I agree. Yeah, I agree with that. I definitely agree with that.
1:01:13Russ: One last point and then I'll let you close. You are very critical of Simon Kuznets, and I was disappointed to see that. I think--he's pretty--I was surprised after reading your book to go back and read his 1955 article. He's pretty cautious. I think it's his followers who implemented this Kuznets curve as a sort of inevitability that development and increases in income would lead to a reduction in inequality. Kuznets himself seems to be pretty agnostic on that. Guest: I think you are right. And I'm sorry if I seem excessively critical with Kuznets. I think in my introduction I try to make clear that I have a lot of respect and admiration for Kuznets who was the first one to compute National Accounts for the United States, the first one to use income tax data to compute inequality series for the United States and in fact for any country. And in a way all what I've been doing is to follow these steps and all what I have in addition to Kuznets is more time, more data, more years, more countries. But in terms of methodology I've just been following what he did. So I'm sorry if I sound excessively critical. I think the problem was his followers. He is indeed very cautious, including in his 1944 article. Also in his 1953 book he is even more cautious and I think he could have been slightly more cautious in his 1955 article as well. But the problem, as you say, was with his followers. And I think also the Cold War era, which everybody wanted to believe in happy ends for capitalism and inequality dynamics and felt that if we say something bad about inequality and [?] capitalism we are going to favor the Soviet Union. So at least today we don't have this possible threat, and you know I don't [?] the year of the fall of the Berlin Wall. I've never had any temptation with Communism. And so I think this is one of the reasons why it is possible to have a more quiet debate [?] inequality today than in the past. Also sometimes some people seem to seem to react as if we were still in the Cold War. But most of the time it's possible to have a more reasonable debate, and I'm very glad that I've been [?] to have this debate with you today. Russ: Well, some of Kuznets's followers extrapolated a trend incorrectly. And I wanted to challenge you--and I'll let you close with this. You're very worried: You point out, correctly, in the book and in our conversation that there are factors that work and work against this r > g, but you are generally pessimistic. So, if that's correct, I want you to close and tell us whether you are optimistic or pessimistic about the future and whether policy changes that you advocate might reverse this trend that you are worried about. Guest: Yes, I am actually a lot more optimistic than what some people seem to believe. I'm very sorry some people feel depressed after they read my book because after all this is not the way I wrote it. In fact, I think there are lots of reasons to be optimistic. For instance, one good news coming from the book is that we've never been as rich in terms of net wealth than we are today in developed countries. And we talk all the time about our public debt, but in fact our private wealth is a fraction of GDP has increased a lot more than our public debt as a fraction of GDP, so our national wealth, the sum of private and public wealth, is actually higher than it has ever been. So our countries are rich. It is our governments that are poor, which is a problem; but it raises issues of organization and institution but that can be addressed. So I think we can do better. I'm not as pessimistic as what some people seem to believe regarding the possibility to have more fiscal coordination and more progressive tax system. I think 5 years ago many people would have said that bank secrecy in Switzerland will be with us forever; and then it just took a few sanctions from the U.S. government and Swiss banks to make the Swiss government change their mind and accept to go into automatic transmission of bank information. So this is only the beginning of the process; but I think this illustrates that proper sanctions--and you know of course it's a bit weird that European countries were not able to solve the problem on their own and had to wait for U.S. sanctions. But I want to look at this [?] in an optimistic manner, which is if we have a pragmatic approach to financial transparency and tax haven we can make progress. To me the next step is when we are going to have a transatlantic treaty between the United States and the European Union and free trade. I think it's important to put more than trade liberalization to this treaty. I think this is a unique opportunity to have important steps in the direction of more financial transparency, automatic transmission of bank information, a global registry for financial assets, a minimal tax on large corporations, on large multinational corporations. You know, we are putting 50% of the world GDP around the table. It's about one quarter for the United States, one quarter for the European Union. So this is not a global wealth tax; this is not 100% of world GDP. But this is already 50% of world GPD. So if we cannot make progress in the direction of more financial transparency and more tax fairness, I think this will be very sad because it's important to have a balanced approach to globalization. Everybody can benefit from globalization. But we need to have more fiscal cooperation to ensure that everybody pays their fair share. Otherwise a rising fraction of our public opinion will feel that globalization is mostly working for large multinational corporations, top wealth holders, and not working for them. So, it's important to bring fiscal and social justice into the globalization process if we want to keep broad support for an open world economy.


COMMENTS (69 to date)
Robert Kennedy writes:

Finally! A provocative guest! While I enjoy every single episode of Econtalk, the topics & conversations, while always interesting, have been a little less spirited the past few months. This one was very good!

Ken from Ohio writes:

I have many disagreements with Professor Piketty’s views. But I will leave the arguments regarding r>g, B=s/g, and elasticity of labor substitution >1, to others.

My main disagreement with Piketty is his complete dismissal of Human Capital. In fact, in his book he states:

“I always exclude what economists call human capital…” p.46

“..it is clear that this type of calculation (human capital) makes sense only in a slave society where human capital can be sold on the market…” p.163

In my view, human capital contributes to individual prosperity far in excess of the ownership of physical capital.

1): The return on education (a college degree) is about a 70% - 80% increase in yearly earnings – every year – for a lifetime. This return is greater than the ownership of any item of physical capital that I know of.

On page 420, Professor Pikkety discusses an interesting subject – the inheritance of 750K euros (about $1M). The inheritance of this sum is roughly equal to a lifetime of unskilled wages ($20K/yr. x 50 yrs.) and is therefore unjust. Interestingly, this same sum of money - $1M-is roughly equal to the average lifetime return on education.

2): Marriage will raise an individual’s standard of living (all things being equal) by 35-50% (See Bryan Caplan’s Econlog post “How Rival is Marriage”). Again, this return on investment is greater than that of any item of physical capital.

Charles Murray’s book “Coming Apart” makes clear how human capital (education, marriage, social connectedness, good health habits, industriousness) is the primary factor that separates those that are prosperous from those that are not.

In fact, I believe that Professor Murray’s views are so important that I humbly suggest that he subtitle his book “Human Capital in the Twenty-First Century”

Keith Vertrees writes:

The main problem I have with Piketty and his fellows on the left is this: their ideology leads them to appoint themselves as the arbiters of a fair wealth distribution. They presume to decide whether this-or-that percentage of income being retained by its earner is useful. Useful, I always wonder, to whom?

My ideology (and I won't claim to not have one--a ludicrous modern tendency) allows the market to arbitrate the distribution. This seems to me to be far more fair.

Mark Crankshaw writes:

I couldn't agree more with Keith Vertrees above. The unstated assumption held by the left is that the political process in charge of "wealth redistribution" is somehow "fair". On the contrary, in my view, the political process is anything but "fair" or "equal".

The political landscape is dominated, manipulated and controlled by the elites of society. Democracy is merely the process by which we select which members of the elite are to pretend to "represent" us while actually serving the elite. Consequently, the political "wealth redistribution" that will inevitably occur will be the type favored by the political "insiders", the very politicians, technocrats, and lobbyists pushing for it.

All "wealth redistribution" amounts to in practice is more money for the Pentagon and big defense contractors, more money for the education establishment and for wasteful government agencies, more money for the beneficiaries of means tested welfare programs, and higher prices and less opportunity for everyone else.

As alluded to in the podcast, the bulk of our education spending in fact cements the social order. Wealthy families send their children to affluent and quality secondary schools, poor families must send their children to low (or no) quality public schools where the probability of going to university and getting a good job is made practically nil. Great for the education establishment and government bureaucrats though--lots of pay and benefits for them.

More "wealth redistribution" will result in more of the same. This is why the Left loves it. They get rich, the problem gets worse, and they now get another pretext to enrich themselves even further.

Miles writes:

Thanks to both of you for engaging in discussion this way. Too many folks these days only talk to their allies, so for us "civilians" it is refreshing and helpful to hear actual discussion on the issues. Thank you.

This was also an interesting discussion because I heard you two walking back and forth across a line between economics and politics. I think I'm convinced by the data about what has happened historically, but I'm less convinced about the policy options or even what "should" be done.

If there's one piece I felt was still unanswered, it's the rate of turnover in the wealthiest. There's a decent difference between the average return on capital and what a safe rate of return looks like, and right now that "safe" r seems barely positive in real terms - probably less than g. That would seem to impact the thesis - or at least the policy implications of the thesis.

On a slightly different point (but going to an early part of the discussion): Prof Roberts, as someone who works in a large corporation, I worry that you underestimate how parasitical the managerial caste can be. A good strategy is to find a department with a reliable revenue stream and elbow your way into running it. You aren't causing the success; you just move to where it is and extract rents. Your individual performance can be very hard to measure, and to some extent your boss won't care as long as the profits flow. (Also, he may be following the same strategy!)
I'm not sure if this is something you could learn more about, perhaps through some of your non-academic contacts.

Keith Vertrees writes:
On a slightly different point (but going to an early part of the discussion): Prof Roberts, as someone who works in a large corporation, I worry that you underestimate how parasitical the managerial caste can be. A good strategy is to find a department with a reliable revenue stream and elbow your way into running it. You aren't causing the success; you just move to where it is and extract rents. Your individual performance can be very hard to measure, and to some extent your boss won't care as long as the profits flow. (Also, he may be following the same strategy!)

This is certainly true. However, when a corporation becomes too bloated with rent seekers, the profits stop flowing. With governments, the opposite seems to be true.

Trent Whitney writes:

Russ,

Appreciated the tone and tenor of this interview, as I'm guessing it was difficult for you at times. I was most shocked by Prof. Piketty's comment that he's in favor of a wealth tax because it would make available reliable data on wealth that isn't available today. To me, that's one of the most inane rationales for a tax that I've ever heard.

Also noticeable was Prof. Piketty's citation of Warren Buffet's quote that his secretary pays a higher tax rate than he does, and that he should be taxed more. If there's one thing I've learned from economics, it's to focus on what people do rather than what they say - yet it amazes me how often economists don't do this. Buffet clearly practices tax reduction strategies whenever possible, as evidenced by his current Burger King/Canada maneuverings.

Perhaps this issue is raised in his book, but you never asked Prof. Piketty why he thinks the corporate managers are paid so much. If they're not generating millions of dollars for the company, why are they being paid millions of dollars by the company? Or, to put it another way, why doesn't a company save a bunch of money simply by firing its managers who are being paid millions of dollars, and replace them with managers that they'll pay "only" hundreds of thousands of dollars?

It's an EconTalk that I'll definitely listen to again this week - again, appreciate the tone/tenor of the interview.

Miles writes:

Keith Vertrees:

This is certainly true. However, when a corporation becomes too bloated with rent seekers, the profits stop flowing. With governments, the opposite seems to be true.

Without revealing too much about myself - say you work for a company that does a lot of business for the government... That can keep the profits flowing. Or if you have a bit of a monopoly, in some totally natural way (e.g. software everyone uses, or physical infrastructure).

Economists focus so much on competition, but over in the business school they are teaching how to AVOID the problems of competition. How to set up a moat, as they say.

John K writes:

As Pikitty implies, the notion that creating great wealth is the primary driver for entrepreneurs is false. I think it is important to look at the reasons why someone pursues great wealth. From what I see the only reason to pursue wealth past a certain point is to dominate others - to have an outsized influence in which you can impose your ideas on others. You can be a Trump bully or a Gates philanthropist, but the motive is the same. Speaking for myself, I don't want to be dominated. Not by the rich and not by the state. I want choices and the ability to say no.

Shawn Buell writes:

The whole problem with Piketty's thesis is the underlying assumption that there is some inherent injustice in some number of people (he seemed fond of using the class warrior's "1%" rhetoric) accumulating an amount of wealth which he deems to be unfair.

He certainly doesn't seem to propose an ideal distribution and doesn't seem to point to a time when things were "better" than they are now, so it comes off as merely kvetching about how unfair inherited wealth is.

I think Russ did an excellent job in pointing out that while there is a greater concentration of total wealth amongst these people that the size of the entire pie is larger and that while an individual may have a smaller piece of the pie compared to a wealth accumulator that the size of that piece in absolute terms is larger than it used to be.

Other relevant measures of how poor people are doing are to look at the number of them who own cars, have Air Conditioning, Flat-screen televisions and in general how much better life is for poor people now than it used to be 50 years ago.

Looking at the consumption habits of the poor as opposed to their incomes is also something which Piketty should examine in addition to the household splitting problem. Most poor people have a vested interest in one form of welfare payment or another, be it direct welfare or EITC so they have strong incentives to engage in off-the-books economic activity which provides additional disposable income for them which they otherwise wouldn't have.

MichaelT writes:

I wish Russ would have pushed him on the wealth transparency issue. Does he really think he has the right to know a person's entire financial situation? I doubt he would like to have his cell phone records released to the public, so why would financial data be any different?

Jefferson writes:

The missing elephant in this discussion is that Picketty wants the State, i.e. the politicians of our highly imperfect democracies, to play "little gods" and as such decide what is a fair income distribution, decide the quasi confiscatory marginal tax rates to try to achieve the former, and then spent the huge collected taxes. This is a recipe for political "civil war", corruption and even the possibility of tyranny. I prefer the unfairness of Lilliane Bettancourt being filthy rich than the danger of Robespierres and Dantons with their guillotins.

Of all the jaw-dropping things I heard Piketty say, this (~47:00) was the corker;

Russ: How do average people get wealthy or better off by rich people doing badly? What happened there? What's the mechanism?
Guest: Oh, the simplest mechanism is that if you have a destruction of wealth, the rate of return to wealth is going to increase, and you know, this creates space for accumulation from people who start from less wealth or zero wealth and that work for labor incomes they can invest.

[N.B. We've fixed the unclear text in both the Highlights above and in this nice comment.--Econlib Ed.]

ads writes:

So why is r > g ? Is it because the national accounts do not capture the personal productivity benefits of having an iphone to Google the cheapest online supplier of Piketty's book? Nor, more generally, fully reflect the consumer benefits from falling real prices - what percentage of the bottom 50% would have caught a plane in the 1960s?

Stephen writes:

I think the present value of free welfare benefits should be included in the wealth of individuals who receive them. Including the benefit of low federal income taxes relative to the average.

And while we're at it, is it a loss of present value to have to pay a higher income tax relative to the average tax payment?

ted writes:

Russ,

I am disappointed that you didn't challenge him on the fundamental premise of r > g. There's plenty of evidence and analysis out there showing this is patently false. I would have told him straight that I simply don't believe him. If the central premise of his book is false, the rest is not worth talking about.

Also, you let him get away with this idea that he's championing the middle class. The middle class has been doing pretty well: it's shrinking because it's becoming richer, not poorer. The Left (and Mr Piketty is certainly of that persuasion) is the biggest enemy of the middle class, and has always been so. That's where the "progressive" taxes hit the hardest, by removing their opportunity to live well, to get good private healthcare and education, and forcing them to use the usually inadequate, government-provided ones.

I found the interview chilling. Every time when I listen to someone in a position of power/authority talking so casually about expropriating other people, about "letting" other people keep their earnings, or even inherited family money, I freak out a little.

And by the way, Buffet doesn't pay less tax than his secretary. That's a Left-wing talking point which you conceded without as much as a sound. He pays orders of magnitude more.

Crazy idea -- Bill Gates and Warren Buffet said that they will give away their money, some 120 billion dollars. So, rather than use charities, they should consider writing out $10,000 checks (pick another number if you like) to each family in the world. The families can decided for themselves how to use the money rather than a NGO doing it for them.

Michael Byrnes writes:

I thought this was yet another well-done interview and I (again) applaud Russ Roberts for bringing in guests like Piketty and having a good interview/discussion with them.

This interveiw was, to me, a little disjointed because Roberts is from Mars and Piketty from Venus (or vice versa). Piketty's whole focus is on the aggregate income/wealth stats, while Roberts, to the extent he is interested in those data, is interested in the underlying causes. Piketty says it is bad to have such accumulation of capital under any circumstances, Roberts's response is that the circumstances matter a great deal. I'm an unapologetic left winger, but in the past couple of years I have read too much Scott Sumner and listened to too many EconTalks to agree with Piketty on this point.

Personally, I am deeply troubled by inequality... but not because inequality is, in and of itself, a problem. This distinction reminds me of former guest Gary Taubes' arguments about cholesterol. Just as elevated cholesterol may or may not be problematic, depending on the underlying mechanism, so it is with income or wealth inequality.

I think the most nuanced and interesting take on inequality from the left is from Steve Waldman:

http://www.interfluidity.com/v2/5031.html

I share his opinion that some of the inequality we see is due to what might be considered ill-gotten gains. How much is unclear, but enough to be a problem.


To sum it up, I would say that "Piketty is not Saint Thomas". Pardon the joke, but what else can I say? He does not believe what he is seeing. Instead, he tries hard to see what he believes in advance. This is a recurrent theme of Econtalk, btw.

1) What do we see? What are the facts?

First, I don’t see in Piketty’s data any large increase in wealth concentration at the top since WWII. The 2000’s do not look like the 1900’s at all in terms of wealth distribution, and you need a magnifying glass to see a trend.

Second, there is an increasing concentration of top incomes, mainly in the U.S., but this is nothing new.

These two facts can by seen in these four graphs drawn from the book (link to image: http://i59.tinypic.com/2w4g2kz.jpg )

2) Some facts are being overlooked

Most of middle class wealth consists of an owner occupied home and a retirement plan, in the form of a pension fund or a public pay-as-you-go scheme. The problem is that tax data do not count these properly.

A home provides its owner with an in-kind income which is not taxable, and therefore does not appear in the tax data. Excluding it slants the income distribution toward high incomes as Piketty acknowledges (note 12, p. 281 and technical appendix).

As for wealth distribution, many pension funds are nontaxable and do not appear in the data. In France, the “patrimonial equivalent” of entitlements in the pay-as-you-go scheme is worth around 3 times GDP! Again, excluding it from the data slants the wealth distribution toward high net worths (see 2006 paper by Blanchet & Ouvrard for INSEE “Les engagements implicites des systèmes de retraite”).

3) How do we explain these facts?

There is all this talk about r>g causing capital at the top to grow 3-4 times faster than the rest of the economy. Where does Piketty's rate of return of 6-7% come from? From the Forbes data showing that the top 0.000005% of the world population was composed of 150 people owning on average $1.5 billion in 1987, while today it is composed of 225 people owning on average $15 billion (p. 434 in the book). Hence $1.5 to $15 billion in 30 years gives 6-7% after inflation. I'm pretty sure r>g is not the explanation. Maybe it's entrepreneurship, maybe crony rent-seeking, but certainly not risk-free returns as implied by "r".

Then there is the more general mechanism explained in ch. 1 of the book: r>g causes capital accumulation as measured in years of GDP (“capital’s comeback” in the book) which causes increased wealth concentration which causes increased income concentration and we end up with a few self-perpetuating dynasties of rentiers.

1910 in Europe does fit the picture in terms of wealth concentration. The problem is that there is no “capital comeback” in Piketty’s data for the XIXth century. National wealth was 6-7 years of GDP in 1800 and still 6-7 years of GDP in 1900.

On the other hand, there has been indeed a “capital comeback” in Europe since WWII, but this has led to no huge increase in either wealth of income inequality. All the action is taking place in the U.S. where national wealth has been pretty stable in years of GDP.

Basically, none of these two episodes fit Piketty's theory very well.

So the book distorts the facts trying to shift attention from income to wealth, but that’s not where the action is taking place. Then it gives a very nice explanation for something which is not happening.

Kinanik writes:

Thoughts so far:

Piketty's story regarding corporate governance sounds a lot like a Public Choice story. And, unlike he seems to think, it's perfectly amenable to marginal analysis. The return to manipulating the governance structure has increased due to lower marginal tax rates...

What's missing from his story is:

1) compared to what? Prices are all relative. Personal wealth is one form of power, but it is not the only one; when marginal tax rates are high, executives will seek power elsewhere, from using the corporate entity to further personal or philanthropic endeavors to using business resources for private consumption.

2) If there's a glaring hole where businesses hemorrhage money to their executives, there should be an entrepreneurial opportunity to out-compete other businesses through corporate governance reform. Public Choice explains a lack of political entrepreneurship (relative to voter preferences) with voter ignorance or irrationality--voters are in a tragedy of the commons. What keeps corporate governance in disequilibrium?


James C. Scott has a book, Seeing Like a State, where he chronicles attempts of states to make their societies more legible to them (in order to increase control). Scott mainly focuses on the bad outcoes of this, while Piketty wants more of it via the wealth tax (though Piketty targets a population not historically targeted by increases in legibility--of course, policies often do not hit their target). It would be interesting to hear a Scott-Piketty dialog.


I had figured that r>g was an aspect of his argument that his critics had overblown, since it's gotten so much negative attention. So, I was surprised that he leaned so heavily on it.


To put on a Hayek hat here, Piketty seems to embody French Rationalism. That should be allowed, which contributes to the common good; that should be disallowed, which does not contribute to the common good. Hayek's work on the French and British Enlightenments is a good reference.


Overall, so far, I've been pretty surprised by his humility given his public image; perhaps it was the venue, or perhaps public discourse translates the work of a humble empiricist into non-humble conclusions. I'll have to do a bit more reading to figure out which it is but, if it's the latter, then Roberts's common call for humility among economists won't necessarily translate into a humble economic discourse.

Bogart writes:

The whole argument of Thomas Piketty is based purely on envy. Russ pointed out that it is not material that there are super rich who are getting richer but that the bulk of the population is better off through technology if anything.

My argument as to why wealth disparities and measures of this disparity are near meaningless or becoming meaningless is from the progress of technology. How do you value the Apple II versus the I-Phone? It is arbitrary at best. Conventional economic science simply uses the per unit price adjusted by arbitrary means to make this description. But what is always missing is the utility from an I-Phone is massively greater than that of the Apple II (Consumers prefer I-Phones) and that difference is beyond measurement. If you take this concept across the entire economy then you have a massive amount of utility to consumers that is simply unmeasured in how those consumers are better off. Add in people like Piketty selling a solution to envy and you have a disaster.

What is truly sad about Piketty's proposals is that they amount to a massive gamble. His ideas are simply that people will be happier with less wealth and greater equality than with more wealth and more inequality. My personal view is that this is a bad bet that failed completely when made by Lenin and Mao.

I wish you would have jumped on Piketty when he said that he did not know what the percentage of wealth should be controlled by the government. You could have pointed out that under Communism it was 99%. I would have been interested in how he would respond.

Bogart writes:

Patrick Sullivan:
Piketty at the point you mentioned was almost arguing against the "Broken Window Fallacy" but not quite as he was arguing about rates not total. And he is correct that a destroyed country does grow faster than an operating one, but his reasoning was nonexistent or incorrect. The reason Germany and Japan had high rates of growth after WW2 was for several reasons: 1. The leadership of both countries broke out of the military micro-managed economy imposed by the Allies and had remarkably free markets for over a decade after the war, this is especially true for the Germans. As time went on, both countries became progressively more Fascist, like Piketty wants the USA to do (Correction as the USA is doing). 2. Both Germany and Japan could sit out a lot of the foolishness of the Cold War. Also note some semi-socialist countries like Sweden experiences high rates of growth during this period for many of the same reasons. 3. Labor was dirt cheap for an extended period of time but had a lot of the brain power that existed prior to WW2. 4. The USA and some others had very little destruction so they could use excess capacity to provide products and services to the Germans and Japanese and not have to cover fixed costs.

MJD writes:

Russ gets nailed by Piketty in this discussion on every point..eg Picketty asks "do you agree that the average wealth of the top cannot grow forever 4 times faster than the size of the world economy?" Russ: I don't think that's the relevant question.

Of course it is relevant. Open your eyes Russ.

Michael Byrnes writes:

I wouldn't called that "getting nailed" MJD. I am surprised Russ did not bring up Stein's Law - if something can't go on forever, it won't.

Personally, I am concerned about inequality, but I am not buying in to Piketty's way of looking at it. That wealth of the top has recently grown much faster than the world economy as a whole is absolutely not, in and of itself, evidence that that trend will continue.

Michael Byrnes writes:

@ Bogart:

You raise an interesting point on measuring wealth disparities, but I think this is going too far:

"The whole argument of Thomas Piketty is based purely on envy."

That's an opinion, and one that many would not agree with..

Anonymous writes:

Michael Byrnes- I would invite you to check-out Richard Epsteins "Good and Bad Contacts: How Consequentialism Helps Define Moral Theory" and some of his talks on "Classical Liberal Constitution", you can find on YouTube. He is in my opinion one of the most sophisticated thinkers, in terms of how to figure out institutions and legal framework that promotes social justice. You could say he has a Kantian Consequentialist approach with 1. The use of coercion justified to promote growth, or positive sum transactions where they would not happen absent government intervention. 2. A strong push for eliminating use of coercion in areas where it results in negative sum. 3. Ultimately the number one concern of society being to allow all transactions that increase the size of the pie to take place. Social welfare as the ultimate objective.

brian writes:
Perhaps this issue is raised in his book, but you never asked Prof. Piketty why he thinks the corporate managers are paid so much. If they're not generating millions of dollars for the company, why are they being paid millions of dollars by the company? Or, to put it another way, why doesn't a company save a bunch of money simply by firing its managers who are being paid millions of dollars, and replace them with managers that they'll pay "only" hundreds of thousands of dollars?

I get the impression from Piketty's comments that he believes that once executives are in charge they do as they please. In other words: corruption. And who can blame the executives for their self interest? As long as the corporation is making profit no one will care what they are paid.

MJD writes:

Is anyone here noticing the statement

"The only problem is that Eugene Schueller created L'Oreal in 1909. And he died in the 1950s, and you know, she has never worked. What's interesting is that her fortune, between the [?], between 1990 and 2010, has increased exactly as much as the one of Bill Gates."

Wealth is being inherited not created. This is a point continually ignored by Russ.

emerich writes:

1. Picketty may be the new Keynes, but Keynes would have been a more entertaining and incisive speaker. Picketty said nothing memorable, quotable, or even insightful, and it wasn't the language barrier.

2. Since Picketty brought him up--I believe Warren Buffett has said on several occasions that in the long run, (risk adjusted) return on investment can't be higher than GDP or profits would eventually be the entire GDP. r>g?

3. To put it another way, why has there been so little questioning from economists on whether in fact r>g is empirically or theoretically defensible?

4. According to the Chamley-Judd theorem, it's impossible to make labor better off by transferring money from capital to labor. Because it's capital that makes labor productive, such transfers would make labor worse off because the reduction in capital would make labor less productive. Shouldn't there be more discussion of this given all the Picketty-mania? (There's been some discussion, e.g.: http://econlog.econlib.org/archives/2013/03/redistributing.html, and http://www.thebigquestions.com/2010/01/27/a-quick-economics-lesson/)

5. In fact, Chamley-Judd would be worth an episode of econtalk. Thanks Russ!

6. Like most leftist economist, Picketty ignores public choice theory. If you want to see wealth taxes in action, look at Venezuela, or Argentina.

netc writes:

Fascinating episode. I have to say, that Thomas Piketty (whether you agree or disagree with his conclusions) seems like an intelligent, rigorous and well intentioned academic. I'm glad a forum like Econtalk exists for civil discourse. I came away with the impression that he is worth listening and paying attention to.

I have to admit that even though I studied economics as an undergraduate in a well regarded faculty, I missed the key point of Keynesian economics. I came away with an understanding that it's something to do with aggregate demand and prices being sticky and never really reaching equilibrium. It was Russ' explanation of the paradox of thrift that made me get it (ironically).

I think there's a similar issue here. Thomas' ideas seems to pivot on 'r > g'. I don't intuitively see how we go from rate of return on capital being greater than the overall economic growth rate to a pervasive concentration of wealth. I kind of see the argument, but I cannot confidently evaluate it.

Here is my attempt at reasoning through it: Imagine an economy producing 100 units of value per year, with 300 units of capital/wealth. Return on capital(wealth) = 10% (30 units per year). Economic growth = 0%. r=10%, g=0%

In year 1, the economy produces 100 units of output. Capital's share of this is defined by 'return on capital' which is 30 units. Layout is left with 70 units. I don't see a deterministic outcome for year 2 so far. Is there an assumption that capital's 30 units is reinvested in year 2 at a higher rate than labour's 70 units? If wealth is being invested in year 2 that was accumulated in year 1 via labour, does it now count towards the capital side? If so, why does growth in the capital base necessarily lead to concentration of wealth?

I'm lost at this point.

So, Professor(s) would you care to clarify? How does'r > g' guarantee concentration of wealth? I would like to understand this point.

Michael Byrnes writes:

Anonymous,

What I object to is criticism of Piketty's motives with no basis. There is plenty to criticize about the ideas Piketty stated in this interview and in his book - I don't see what is gained from unsupported speculation about his motives?

Emerich wrote:

" Since Picketty brought him up--I believe Warren Buffett has said on several occasions that in the long run, (risk adjusted) return on investment can't be higher than GDP or profits would eventually be the entire GDP. r>g?"

I believe that is exactly the case Piketty is making. It has been the case before (say, in feudal times) and he argues that it is trending in that direction again.

I'm not convinced he's wrong, but I don't think an extrapolation from the recent r>g trend is conclusive evidence in and of itself. Nor am I convinced that his approach (broad based wealth tax) is the solution; or of his apparent belief that an appropriate policy response should not distinguish between returns on capital from production vs. unproductive rent seeking. There are some arguments about why such an approach would be warranted (see the Waldman post I linked above), and Russ surely would have had the counterarguments, but Piketty didn't go there. At this point I personally think Piketty is wrong here, although

"According to the Chamley-Judd theorem, it's impossible to make labor better off by transferring money from capital to labor."

Be careful here. Chamley-Judd is, like much work in economics, based on some assumptions that are not necessarily true in the real world. Here is a through criticism of it from Waldman:

Bogart writes:

Michael Byrnes:
If not envy then what else? Will any of his suggestions make the people of world wealthier and healthier in the short run much less the long run? Has his suggestion of raising the Minimum Wage helped minority male youth in the USA? Look at the graphs of Minimum Wage versus Male Minority Youth Unemployment to see the relationship.

It is nothing other than to relieve envy that would lead a person who claims to be an economist to suggest that you make the masses of people worse off to resolve a gap in wealth.

Do you really buy his argument to make democracy better? Will more effective democratic government help people? Sure it can resolve a wealth gap through theft and giveaways thus making people poorer but can it really make all people wealthier? Democracy to me is two wolves and a sheep arguing over what is for dinner.

Moreover, he wants to empower the one institution that creates the wealth disparities that being government. Governments and their central banks transfer wealth from the poor to the rich and from the entrepreneurs to the gamblers of the world. If he suggested getting rid of central banking and cutting back on government handouts to wealthy folks like those in military contracting, then I would agree with him.

Robert Wiblin writes:

It's great to have such a spirited and informed guest who can effectively challenge Russ. Sometimes too much disagreement can make a useful conversation impossible, but usually between two economists there is enough common ground for a productive exchange of views.

Jefferson writes:

Inequality (from market forces, not monopoly or corruption) is the price of freedom. A very low price indeed, considering that freedom eliminates poverty and maximizes our autonomy. When I wake every morning I care about the poor people still living with us, but never about whether Bill Gates or Liliane Bettancourt has an extra billion. This whole issue is wildly exaggerated. Let's focus on eliminating poverty in the world.

I don't intuitively see how we go from rate of return on capital being greater than the overall economic growth rate to a pervasive concentration of wealth.
Oddly enough, Piketty concedes this point when he tells Russ, at about 16:00, that;
So, r is the rate of return on capital, which is what is the return that you get in one year on your capital investment. .... The growth rate of the economy is a completely different concept.
However that doesn't stop him from comparing them as if they WERE the same thing.

But eventually Piketty switches to a different argument (about 32:00);

So, according to the data we have from Forbes's global wealth ranking, these very top groups have been rising at 6-7% per year for that period. Now, world GDP has been rising at 3, 3.2% per year over the period. But in fact half of it is due to population.

NOW he's comparing growth of wealth of the top to GDP growth.
So if you take per capita income at the world level and per capita wealth at the world level...

I pause to let that conflation of two different things sink in. And continue with Piketty, perhaps because he isn't a native English speaker, saying;
... it has been rising at 1.5-2% per year.

"it"?
So in other words your top is rising 3 to 4 times faster than the average.

Income, or wealth? Regardless of which he's talking about, he sees that his fear will be self-correcting;
Now of course this cannot continue forever. And I'm not saying this will continue forever. You can see that if it was to continue forever--if the top was to rise 3 to 4 times faster than the size of the world economy forever, then 30 years from now you will have close to 100% of world wealth belongs to a little group of billionaires.

Which is clearly impossible, since capitalists will need labor to man their factories, sit on their forklifts, operate their drill presses, enter data into their computers....

So, what's he worried about?

Michael Byrnes writes:

Bogart wrote:

"If not envy then what else?"

What difference does it make? If you somehow knew, to a certainty, that Piketty's motives were pure and noble, that he genuinely believes in his heart that wealth disparities at the current scale are harmful to human welfare and that he personally was not interested in accumulating a share of Bill Gates's earned wealth, would that change your assessment of his argument? I would assume not - why should it?

Whatever his motivations, he has presented some facts along with his own interpretation of what those facts imply. And as we can see from this thread, it is certainly possible to question his assessment without speculating/jumping to conclusions about his underlying motivation. That, to me, is ad hominem.

Chad writes:

Okay, I've never taken a college economics class, but I own a business and I own some stocks. And Picketty's perspective makes no practical sense to me in so many ways...

Here's one thing I don't get about his point about r > g. Perhaps someone can tell me what I'm missing.

Picketty asks "do you agree that the average wealth of the top cannot grow forever 4 times faster than the size of the world economy?" This I take as emphasizing his view of his idea of r > gs.

But I hear this and I think: if the wealthiest 1% are investing money and making it productive at, say, an 8% return, and the economy as a whole, including them, is growing at 2%, of course these both wouldn't continue. What *would* happen seem pretty straightforward.

If the wealthiest people continued to invest all of their money with an average return 4 times higher than everyone else, wouldn't the wealthiest group would be controlling an ever greater percentage of an economy that was growing at an ever faster rate overall.

If that 1% got to the point of owning 99% of the economy and investing those resources to return an average of 8 percent, the GDP would be growing at 7.99%.

And if the economy was represented by a pie that was growing and growing, the absolute size of the pie going to the other 99% would be rising at faster rate than ever as a result of the way the 1% were increasing their wealth, wouldn't it?

So my impression that Picketty is absolutely right that you can't sustain a situation where one group in an economy is consistently producing massively more wealth than the economy as a whole, and compounding their production, because if they somehow continued to produce that much wealth indefinitely, they would incrementally pull the whole economy up to their speed with them, the more wealth they controlled.

Where's the problem with that?

Picketty seems to see letting this scenario run as producing a disaster. How does he get to a disaster from this? Does someone know his work who can explain to me what disaster he's afraid of? It just seems to make no logical sense.


Richard Fulmer writes:

Several times Piketty stated that if the trend his formula projects continues, the rich will have 100% of the wealth and everyone else will have 0%. He uses the fact that people can't live on zero wealth to trump dissent. To me, the trend his formula suggests indicts his formula and not capitalism.

If a formula leads to ridiculous forecasts, the problem is not with the world that the formula is modeling, the problem is with the formula.

Following Piketty's thought, I would panic after observing that a particular baby's weight doubled during its first year of life because at that rate the baby will weigh over three tons by the time she is 11 years old.

Chad writes:

Oops, I said r > gs above, when I meant r > g.

brian writes:

Chad

If that 1% got to the point of owning 99% of the economy and investing those resources to return an average of 8 percent, the GDP would be growing at 7.99%.

And if the economy was represented by a pie that was growing and growing, the absolute size of the pie going to the other 99% would be rising at faster rate than ever as a result of the way the 1% were increasing their wealth, wouldn't it?

This is his exact point about inequality becoming a huge problem? The GDP will not grow at 8% if the 1% own 99%.

Their is only so much 'rent' you can squeeze from the 99%. I think Piketty's basic argument is that this 'rent' is non-productive. I think Russ's point is that the 1% do create value, aside from 'rent'.

But both would agree there is a middle point. Who knows were that middle point lies.

ps Regarding Piketty's take down of Kaplan's data. Did Kaplan just arbitrarily take the top 5 earners? If true, I am disappointed I took such shoddy work at face value.

Chad writes:

Ah, now I found this quote by Piketty:

"...even if [the growth] was 100% entrepreneurial wealth, you don't want to have the top growing 4 times faster than the average, even if it was complete mobility from one year to the other, you know, it cannot continue forever, otherwise the share of middle class in national wealth goes to 0%."

While the share might move somewhat *closer* to 0% of the whole, the absolute wealth of the middle class would most likely be growing along with the whole--and growing as a consequence of the wealth creation at the top. And isn't that what the actual historical trends in relatively economically free countries show? Aren't those trends relevant?

Piketty seems to be a fan of extending any trend he finds the mathematical limit of the trend--even if this is obviously impossible given the nature of the events the mathematical trends describe. What about the actual trends about what happens to the wealth of the bottom 99% in countries where the top 1% are growing wealthier much more rapidly through entrepreneurial means? Isn't this historical data relevant to his quote above? Or what about what happens to the wealth of the average worker in companies who pay their top couple of executives *sustained* salaries over decades of some enormous multiple of the average salary in that company? Wouldn't that data be relevant to his claims? Aren't his claims that such companies are pushing more and more people into complete poverty (0% wealth)? And shouldn't that be easy to test?

Chad writes:

Brian,

"This is his exact point about inequality becoming a huge problem? The GDP will not grow at 8% if the 1% own 99%.

"Their is only so much 'rent' you can squeeze from the 99%. I think Piketty's basic argument is that this 'rent' is non-productive. I think Russ's point is that the 1% do create value, aside from 'rent'."

1. That could be, but I don't think that fits with Piketty's willingness to say his fears apply even if you stipulate that 100% of the growth is entrepreneurial wealth. (See the quote I just posted above.) Doesn't this indicate that his view *doesn't* depend on the wealth being a "squeezing of rent" from fixed amount of economic wealth?

2. If this were his view, that 4x return that "r" gets above "g" would have to be slowing down pretty fast long before 100% of wealth is absorbed. That rate couldn't be sustained to anything close to 100%. Yet Piketty strongly implies that unless we intervene, this this *will* proceed to 100%, and this unchecked rate is what he's concerned with...isn't that what he's saying? Or am I missing something about his views?

Shawn Barnhart writes:

I'm curious how Piketty (the man and his book) would have been received if he wasn't French or didn't speak with a heavy French accent. Maybe this is just too postmodern of me, but I wonder if his "otherness" doesn't lead to greater criticism of his ideas, especially with the 20th century cultural association of the French intelligentsia with socialism and philosophical ideas, such as existentialism, which can be at odds with more traditional ideas. The French also have a reputation for being culturally at odds with contemporary economic thinking (which one might argue is demonstrable in the performance of the French economy).

One of the assertions raised by Piketty and others surrounding the distribution of wealth is that too great of an inequality has potentially negative consequences for the economy and for the political process. Philosophically, I wonder if it is possible too agree that too much wealth concentration is bad without being able to define what an "appropriate" inequality of wealth ought to be. Can you say that there is too much inequality without saying what the right amount is?

Amren Miller writes:

You simply cannot attack inequality without attacking the legal structure of the corporation. These are macro problems. The rich don't simply take money like they do without an accomplice. Read this: private property and the modern corporation. Think about it for a minute, the most powerful institutions in our society are ostensibly created with the major intent of giving free money to people, called investment. And the only way to invest in a corporation is to have made money in the past. Capitalism is a wealth stratifying system. I knew a guy recently whose dad invested for him over time and was making 30,000 dollars a quarter from dividends, I guess. I am against that.

Richard Fulmer says

Several times Piketty stated that if the trend his formula projects continues, the rich will have 100% of the wealth and everyone else will have 0%. He uses the fact that people can't live on zero wealth to trump dissent. To me, the trend his formula suggests indicts his formula and not capitalism.

If a formula leads to ridiculous forecasts, the problem is not with the world that the formula is modeling, the problem is with the formula.

Yes, this formula predicts something which is not happening, according to Piketty's own data: http://i59.tinypic.com/2w4g2kz.jpg

I am amazed how everybody is blinded by the formula and does not look at the facts. Since Marx's capital accumulation, the law of compound interest exerts a kind of fascination despite its obvious failure to explain what is going on.

As I mention in my comment above, Piketty arguably understates the middle class share of wealth and income and, despite this bias, he does not find any obvious increase or trend in the share of wealth owned by the 1%.

SaveyourSelf writes:

Around 33:31 Thomas Piketty said, “And this group, the middle 40%, the people who are not in the bottom 50% and who are not in the top 10%, they used to own 25-30% of national wealth. And this has been going down in recent decades, as shown by a recent study by Saez and Zucman and now is closer to 20, 22%. Now, how much should it be? I don't know. I don't know. But the view that we need the middle class share to go down and down and down and that this is not a problem as long as you have positive growth, I think is excessive. “

There is a known risk to using percentages for making comparisons over time. They are ratios. Over time either the denominator or the numerator can change the percentage. If all we do is look at the percentages, we do not know which one changed or if both changed. If we assume that he is correct that 25% has decreased to 20%, that does not tell us if the change is bad, good, or neutral. For that we need the absolute numbers. Because it is entirely possible that 20% today is greater than 25% in the past.

Later Piketty said, “But if you have 1.5% growth rate and the share going to the middle class and the bottom is reduced, then is this a good deal? “

Ah, he recognizes the potential flaw in his logic and he tries to quickly address it but he doesn’t complete his calculation. Lets complete it for him.
Let us say there is 100 dollars in the whole economy in 1980. And let us say that the middle class owns 25 of those dollars (25%). How much would the middle class control 30 years later if it controlled “only” 20%--assuming a 1.5% growth rate per year? The answer is 31.3. So--if my math is correct--20% of the wealth in 2010 is worth more than 25% of the wealth in 1980. Which means the percentage change Mr. Pickering is worried about actually represents and IMPROVEMENT in the standard of living of the middle class.
Piketty also said, “And when Warren Buffet says, I should not be paying less tax than my secretary...”
Again, looking at percentages without looking at absolutes at the same time can be misleading. The secretary probably pays 40% in taxes whereas Buffet probably pays closer to 20%, so the secretary probably pays about $60,000 a year in taxes whereas Mr. Buffet pays upwards of 6 million!
Chad writes:
MJD wrote:

Wealth is being inherited not created. This is a point continually ignored by Russ.

And apparently that is also Piketty's opinion of what this example he gave represents:

"The only problem is that Eugene Schueller created L'Oreal in 1909. And he died in the 1950s, and you know, she has never worked. What's interesting is that her fortune, between the [?], between 1990 and 2010, has increased exactly as much as the one of Bill Gates. She has gone from $5 to $30 billion, when Bill Gates has gone from like $10 to $60. It's exactly in the same proportion. And you know, in a way, this is sad. Because of course we would all love Bill Gates' wealth to increase faster than that of Liliane."

So, I hear that and I see: She inherited $5 billion and created another $25 billion on top of that. She apparently created as much increase as Bill Gates. I think that's impressive and exceptional. Piketty claims she never worked, and implied that what happened with her is average for someone who inherited wealth.

Does Piketty believe money automatically grows on its own for people who have a lot? He can't believe that...but he seems to treat it like that--like there's nothing there...like it just happens. And, further, he addresses it as if a 6x growth in net worth is a process that somehow happened in a way that only involved the heiress, and involved no work or wealth creation anywhere. That's so strange. What exactly does he think was going on when her net worth grew like that?

Out of curiosity, what percentage of people with wealth have their net worth grow 6 times larger over 20 years? Perhaps we narrow that to people with wealth over $500 million, or just people who have inherited wealth over $500 million.

Does Piketty use the Schueller story to imply that all inherited wealth grows at this rate? Or does he think this is an exceptional case that doesn't represent the average? He seems to imply the former--the latter would contradict his basic thesis, so using it as support of his thesis wouldn't make sense. But the former obviously isn't true, so that doesn't make any sense, either.

I would love to hear him address some of these issues more clearly, as I cannot make basic sense of what he thinks or is claiming about these things.

The Urban Blabbermouth writes:

@Netc I am also struggling to understand R>G. This is as far as I have gotten-

The poor accumulate capital but at some point retire then begin to consume capital down to zero. The rich’s capital is so large enough that the earnings will be greater than their consumption and the earnings then becomes capital to earn more earnings. Their capital eventually grows to be quite large while the capital of the poor decreases.

The rich eventually die and their capital is passed to their heirs. The heirs, lacking skill of their predecessors, eventually will consume everything in the long run and end up poor.

So R>G may exists but there may be another mechanism that keeps it in check.

steve olson writes:

i couldn't tell if the analysis accounted for the difference between the marginal tax rate and the effective tax rate in the "good old days" when the US had excessive tax rates, but lower effective rates, because many of the people subject to said high rates were able to reduce their effective rates via tax "shelters", loop holes and other avoidance practices.

Ron Warrick writes:

Excellent overview from Mr. Piketty. However, for full impact and understanding of his findings, one still has to read the book. That said, I have yet to find any critic or interviewer that has been able to land a good blow on Piketty. Partly because his research was so thorough, and partly because his claims are much more modest than critics would have us believe, however disturbing his actual findings may be.

It really doesn't matter what Piketty thinks about the 'fairness' of inequality and rent-seeking. What matters is what the public thinks of it, how long they will put up with it and what their reaction will be. If they come to believe the game is rigged (hello), the reaction could be an overreaction.

@Stéphane Couvreur That graph you linked to has clearly been doctored, or simply botched. In particular, that last inflection point on the 1% wealth graph for the US suggests a slow-down in the rate of growth of the 1% share, while the graph in my copy of the book shows if anything an accelerating trend toward the end. It's true the rate of increase is small and looks as if it could be a fluke, if not for the fact that a similar r>g dynamic appears to have been at work in the 19th and early 20th century, prior to the destructive effects of the Great Depression and World War, and the equality-inducing effects of highly progressive tax rates following the war until about 1980.

Chris Stone writes:

Thoughts on the podcast:

1-Heard a lot about the monumental book and its brilliant author...I will never read it, life is too short...the podcast (an hour or so) will provide me with 95% of the knowledge/value of the book. Life IS getting better!

2-I could be wrong, but the book's main point seems to be a point of view ("the rich are getting too rich") in search of a data set to support it.

3-Re: "Average wealth of the rich" whenever I hear "average" used to analyze highly skewed data sets, my BS alarm goes off, why not "median?" See point 2: "in search of a data set."

4-Did I hear it correctly? According to Pikkety, WW1, The Great Depression, and WW2 were all great events in terms of destroying the wealth of the rich and creating opportunity for the middle classes (or, what remained of them in some countries.) Is WW3 thus recommended as a potential solution to income inequality? Just imagine the opportunities that WW3's survivors may have!

5-Every generation must re-learn about the horrors of Marxism/Communism, how will we re-learn? We are starting to forget...

Greg G writes:

It's difficult to understand why anyone would invest at all if R wasn't greater than G.

Why take the risk of investing if you can grow your income at the same rate without taking that risk?

MTipton writes:

To people concerned about 'r' > 'g', focus on changing the relationship by increasing the value of 'g' and in this way breaking the cycle. How do we increase the value of 'g' so it's greater than 'r'? That's would be the best approach, focusing on promoting pro-growth policies.

Hi Ron,

You are welcome to check. I've used Piketty's data which is available online. You can download my version of the Excel sheets including the graphs here.

In the English version of the book, the four graphs in question are in:
- Figure 9.3 p. 317 (U.S. 1% income)
- Figure 9.2 p. 316 (France 1% income)
- Figure 10.5 p. 348 (U.S. 1% wealth)
- Figure 10.2 p. 340 (France 1% income)

SaveyourSelf writes:

~15:16 Thomas Piketty says, “In order to analyze the long run evolution of wealth concentration, there is one central force that I emphasize, which is the tendency of the rate of return to capital to exceed the economy's growth rate.” “So, r is the rate of return on capital, which is what is the return that you get in one year on your capital investment.” Whereas G is, “…the growth rate of the economy in the long run.” “In the long run, there is a tendency for r to exceed g.”

There are two major parts of the economy: 1. People 2. Tools [Capital]. People are basically the same today as they were 10,000 years ago. The growth rate in productivity of people in the absence of tools is, therefore, nearly 0. Give people tools and they can increase their productivity substantially. Any growth in the general economy, therefore, is likely ENTIRELY attributable to improvements in the tools people have available and, to a lesser degree, the number of people using those tools. Which would suggest that R=G, but it does not—why?
Piketty says G is the growth rate of the economy, which means G is inclusive of R, because the growth rate of Capital is part of the growth rate of the entire economy. So R is a subset within G.
If R > G then that means there is another subset of factors within G that have negative-productive value which reduce the total output of the economy when added to the Capital gains. What could these other, negative, subsets be?
Consider the following metaphor: The entire economy, G, is made up of two people. Imagine one of those people invests his money in a company that makes tools and compare his rate of return to the other person who invests her money in raising a child. Investing in the kid produces negative returns during childhood when measured with standard economic tools like currency. In theory, when the kid grows up his activities might increase G. But that’s not certain. The child may prefer drugs to work. He may have a disability that prevents productive work. He might be chronically ill and require constant care. In those cases and many others, the child could contribute a negative productive return on investment both during childhood and adulthood.
In any case, the metaphor above suggests that not all human investments increase measurable economic output, and that this sort of non-productive investment is not always a bad thing. But good or bad, some human activities reduce measurable economic activity, others increase it, and when added together the total—G—is somewhere between. Thus R>G.
How does the model implied in the above metaphor help our understanding of the relationship between R and G? Well, it does a lot to explain the patterns Piketty is so concerned about. First, the bottom 50% of US citizens only control 2% of the total capital in the country. Why? Perhaps it is because many of them are raising children; are sick; are “disabled”; are hampered by drugs; or do not have access to the tools that can make them more productive. Second, as children leave home, their parents’ capital streams are freed up and they can begin to accumulate Capital. Thus they transition to “middle class.” Finally, if they live very long, save a lot, or are just lucky in their investments, they become “upper class.” This explanation, of course, is not all inclusive but I think it is a fairly common one and it has very practical implications.
Want to be rich? Have fewer kids; save more than you spend; invest in tools that make people more productive; stay healthy; avoid drugs; live a long time. Piketty’s solutions—tax the savers; give the proceeds to others who do not save; subsidize heavily the government school system, raise the minimum wage—are Socialist policies. If no one can save because extra income is taxed away and given to non-savers then there is nothing to invest. If there is no investment then you would expect slower or stagnant or even regressing rates of change in the quality of tools[Capital]. Thus, R decreases, and, because R is a subset of G, G decreases too. Alternately, negative-productive activities increase in socialist systems because they are subsidized—for example 23.3% of the citizens in my home state are on "disability" and are paid for not working—and because negative-productive activities are also a subset of G, G decreases as they increase. When G decreases, society is getting poorer. I humbly propose that, while trying to reduce income disparity, we avoid policies that make all of society poorer in the process.
Doug Tree writes:

Very fun episode. Although, I would have like to hear a little bit more back and forth. I thought Piketty steam-rolled Russ a couple of times when he was trying to push back. It would have been nice to hear Russ a little more, so we could get a tighter discussion. Instead, Piketty rambled a lot.

But I think Piketty made some very interesting points. He had some very nice insights, which I thought were fascinating.

Michael Byrnes writes:

SyS wrote:

"There are two major parts of the economy: 1. People 2. Tools [Capital]. People are basically the same today as they were 10,000 years ago. The growth rate in productivity of people in the absence of tools is, therefore, nearly 0."

This is an overstatement. The tools are designed and built by people. Well, some tools are actualy built by other tools, but still designed by people. The people from 10,000 years ago could not have used an iPhone, never mind designed and built one. Much of our expensive (and productive capital) would be completely worthless to them.

"Capital" and "Labor" is a false dichotomy.

Floccina writes:

1. What about the old idea that accelerating inflation helps the poor until the rate of inflation gets above 15% and that decelerating inflation helps the rich?
2. In regards to the r>g everyone talk about having more children decreases an estate, I agree with that and would add that having no children usually disburses an estate also. So the problem persists if there is only one heir.
3. Also it seems like in the 1980s people started believing an idea that people at the top matter a lot. That could change.

cjc writes:

So here is a gedankeneksperiment;

Assume that within the next few years, the number of billionaires doubles. But these billionaires are drug dealers, black marketers, bitcoin arbitragers etc and they are listed no where. Not in the Forbes 500, nowhere for Prof P. to find them. So given that such growth in wealth is, according to Prof. P., a hugely detrimental thing, and certainly influencing our economy, my question is a simple one. How will Prof. P. know? what are these indications? what will tell him that the growth in wealth is happening and that the economy is being damaged as a consequence.

I suspect that the only way Prof. P knows of the dire growth of wealth is by reading it in the Forbes 500. And the only effects are the feelings that well up within him when he reads of the growth. Without the list, the Prof. has no way to know of, or measure the consequences. Because he cannot clearly describe or measure the consequences now. He just knows they have to be there when he reads the list. The list says things are unfair and that must be bad.

So it suggests that the motives here are human rather than academic or economic.

@CJC I like your drug dealer idea but surely the effects can been seen somewhere. The FBI may know but are not telling.

I suspect that the economy already has some black holes where the effects are seen and then economists invent a theory to fit the facts as seen and completely miss the unseen.

Jay writes:

@brian

Anyone that even barely follows business news will disagree with you, corporate boards care an awful lot.

Joseph R. Jones writes:

Absolutely fascinating conversation - one of the best EconTalk episodes to date. Picketty was arrogant and inflexible, but it was entertaining as heck to hear the frustration and exasperation in Russ' voice while arguing with a brick wall for an hour.

That aside, the discussion was fascinating. Even though I disagree with Picketty on his conclusions and causal factors, I *do* agree with him on the need for a wealth tax to replace income taxes. I have different reasons for favoring this model than him, but I think the incentives created by taxing wealth are less perverse than those created by taxing income.

William writes:

Wow, so many libertarians in this comment section.

I think the most interesting argument I heard in the interview (I find it slightly hard to follow the more complex explanation spoken in English with soft French accent) goes something like this:

Currently 10% of American own 75% of the wealth. Even if these 10% created such great economic growth for the whole, if they continue to become richer at 4x the rate of the economy, in 30 years they would have 100% of the wealth.

Thus it does not matter if they double, triple, quadruple the GDP (it is also pointed out that rate of growth is normally 1-1.5%), 0% of anything is 0%.

Zak writes:

Props to Ron Wawrick. It took about 60 comments but I had the same take. Piketty's conclusions seemed less to do with his own moral philosophy and more to do with the intolerance of humans through history to suffer exploitation.

It matters not if the highest echolon are entrepreneurs creating wonders and therefore being richly rewarded. If the funds fail to trickle down to the masses then revolts occur. This to me is the takeaway from the conversation, it's not that r cant exceed g for the richest ad infinutum due to their ability or resourcefulness but rather their will be a breaking point from the other 7 billion people on the planet.

Piketty didn't do a good job of espousing this (it may be possible that these are my conclusions alone) and Russ didn't do an overly great job or thinking outside the box.

As others have mentioned it was great to have a legitimate exchange on the podcast.

Artur writes:

Piketty might be wrong on the statistics and on the conclusion, but I agree with him that this is the correct aproach on how to make adjustments on how we tax. We should be doing more huge data analysis like he did.

A also like this part of his speach.

And I think also the Cold War era, which everybody wanted to believe in happy ends for capitalism and inequality dynamics and felt that if we say something bad about inequality and [?] capitalism we are going to favor the Soviet Union. So at least today we don't have this possible threat, and you know I don't [?] the year of the fall of the Berlin Wall. I've never had any temptation with Communism. And so I think this is one of the reasons why it is possible to have a more quiet debate [?] inequality today than in the past.
Ron Crossland writes:

Fascinating conversation. Congrats Russ for taking on this topic.

I'm more fascinating by the comments section, though. Loads of folks trying to understand if a simple r>g argument can resolve an inequality problem that's not just an economics equation. Others raising social concerns from equity to envy. And a third category over whether wage markets are realistic (overpaid managers).

There are no truly free markets (ones devoid of corruption), there is no uncorrupted government processes, greed strikes the purest of us, and inequality is the byproduct of a quarrelsome hominid species.

What Piketty does provoke us to consider, though, is to collectively strive to reduce the more egregious factors of inequality instead of simply suggesting the most extreme examples are irrelevant.

Emil Suric writes:

His argument, especially with regards to the "R" and "G" relationship that he highlights, is utterly incoherent. "R" must, by definition, exceed "G." "G" is a function of R*K (rent * units of capital) + W*L (wages * units of labor) + R'*L' (rent of land * units of land). Each component corresponds to a different level of risk and, therefore, to return. The first factor (R*K) is by definition the most risky component and therefore will always have a higher return then "G." The empirical evidence supporting the relationship between risk and return is torrential.

Furthermore, he pays no attention to the relationship between the variables - there is a high degree of heteroskedasticity (do not exist in a vacuum). And finally, it ignores the fact that many individuals are, at the same time, both owners of capital, sellers of labor and renters of land.

His point that "it is logically impossible that the top can grow at higher continuous rates relative to the rest of society (the average)" entirely ignores the risk element mentioned previously. It ignores the volatility of returns - he assumes that the "top 1%" is defined and grows at this constant rate. What's actually happening, in fact, is that there's massive movement (volatility) between the various tranches.

The companies with high returns 50 years ago do not have high returns today and many of those firms don't have returns at all (have gone bust). The wealthy of 50 years ago, in the vast majority of cases, are no longer wealthy today.

This is an economist with little understanding of financial economics.

bogwood writes:

Channeling the eco-energy view, r and as noted g depends on cheap energy. For the last hundred thousand years r more or less equaled g until we stumbled on the fossil fuel bonanza. Mostly years of relative equality with a few centuries of hierarchy.

Now it may be that more expensive energy will slowly decrease the inequality but rent-seeking activities, like pro-sports tends to perpetuate it. (see my kickstarter campaign to deprogram Russ from the professional sports cult)

Stop the rent-seeking before starting taxes.

The free trade view may be short-sighted. There is a danger that the next collapse would be worldwide rather than the usual local collapse.

Ralph writes:

Piketty is simply making the same "hockey stick" argument the man-made global warming alarmists make. I guess it engendered so much response there he'd try it in economics to justify a similar government intrusion in the economy.

Piketty doesn't champion one government, as he says. Piketty champions the European Community and it's leftist counterparts in the United States, or better described, targets Europe and the US because that's where the money is, and where the political process makes it accessible.

He's an international socialist of the old type, when they didn't try to disguise their intentions. He's boldly defending an international wealth tax to fund an international coalition of governments that will somehow magically make the world a better place. They will steal your bread and, in some miracle of the transformation, distribute crumbs and you will be thankful for their attention and service.

As many noted above, he is deliberately ignoring (it isn't ignorance) the public choice aspects of government. And as others noted above, large corporations and their CEOs are amenable as long as government regulation protects them from competition: fascism and socialism are ultimately the same thing - socialism is the ideology and fascism is an alternative method vs. Marxist popular revolution. But, even under socialism public choice is in play: Socialists and Sociopaths.

Piketty despises wealth accumulation by private sector elites, but he's all for government expropriation by supposed "intellectual" and "moral" elites. "it's important to bring fiscal [taxation] and social justice [redistribution] into the globalization process". And all the while he claims to be defending the free market.

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