From Jeffrey Frankel:
It is true that capital’s share of income interest, dividends, and capital gains rose gradually in major rich countries during the period 1975-2007, while labor’s share wages and salaries fell, a trend that would support Piketty’s hypothesis if it continued…..
But interest rates have been at all-time lows in recent years – virtually zero. And the claim that in the long run the interest rate must be substantially greater than the economic growth rate is absolutely central to Piketty’s book.
That said, Piketty’s vision is focused squarely on the truly long run….Three century-long movements constitute the essence of the book: a rise in inequality in the nineteenth century, a fall in inequality in the twentieth century, and a predicted return to historically high inequality in the twenty-first century.
To me Piketty started with a preconceived idea and selected data to support this. He seems to ignore the impact of industrialization in the 19th century and technological advances in the late 20th century as sources of wealth creation, as well as access to low-cost labor through globalization during the latter period which has eroded manufacturing jobs and real wages.
Read more at Piketty’s Missing Rentiers by Jeffrey Frankel – Project Syndicate.
The main issue that is ignored is the rise in monopolies and oligopolies over the 19th and 20th centuries. These monopolies are increasingly entrenched through tolerance by governments seeking national champions and defining acceptable concentration of economic power as ‘good for the consumer’.
Evidence is the spread of copyright and patent restrictions. Copying and incremental improvement is the base on which economies grow and this productive copying has been damaged by these laws. It has resulted in an increasing concentration of capital as it serves as a means to generate excess profit through the concentration of market power. It is only with monopolistic protection through copyright that Microsoft generated such enormous profits in contradiction to classic economic theory. If other companies could copy and supply the software and develop derivations without restriction these excess profits and the consequent accumulation of capital would not have happened.
Australia showcases tolerated oligopolies. There is concentration of market power in banking and in food and hardware retailing among others. The banks generate nearly one thousand dollars in profit for each person living in Australia. There are two major retailers and these reduce the range of brands offered so also shrinking the number of suppliers causing further concentration in their supply chain.
Another example of government generated monopoly is planning restrictions which concentrate shopping in council or government approved shopping precincts. This becomes invidious when it result in single owner shopping centres. The single owner can and does charge excessive rents as there is very restricted real access to the customers outside the shopping centre. The shopping centres also subtract value from all existing shops in their catchment area so transferring capital value and income from individual owners of shops to the owners of the shopping centres.
All of these local monopolies and oligopolies under classical economic theory inevitably result in concentrations of capital. Piketty takes no account of this cumulative effect.
Many of these, with the possible exception of patents and copyrights, are examples of crony capitalism which concentrates wealth in the hands of the few while exploiting the many. Another aspect of the same problem is access to cheap labor through globalization/currency manipulation (by major exporters such as China/Japan) which again benefits the few while destroying wide swathes of jobs in manufacturing.
IMO crony capitalism is one of the two biggest threats to capitalism. The second threat is related — shall we call it crony banking? Where banks exert sufficient pressure on regulators to maintain lax banking rules which enhance profits while transferring risk to the taxpayer.
If capitalism is one day destroyed, it will not be by an external force…. but from within.
The foundation of Piketty’s thesis is that if the average ROR of capital is greater than the growth rate of the economy, then inequality must rise. This idea had never occurred to me. In hindsight I wonder why not, as it now seems obvious.
The average person can prove this in ten minutes with calculations done on the back of an envelope. An economist of course, would take much more time and a 900 page book.
Jeffery Frankel misrepresents Piketty by equating interest rates with the average ROR of capital. Yet reducing interest rates lifts the profitability and value of capital assets, as any homeowner can tell you.
In addition one must consider the reason base interest rates are low. Governments are engaged in attempt to improve liquidity by issuing debt that banks buy. This surge of dead money, growing far faster than the economy, deflates the average greater than it does say, mortgage rates. Because it is dead money, it is hard to see this having much influence except to exchange rates. Within each currency zone the effects will take time to become apparent.
Frankel asks “Where are the missing Rentiers?” Firstly, Piketty points out that there are fewer and fewer of them due to the increasing concentration of wealth. Secondly they are on holiday together. Find one and you find them all.
Does Piketty exclude new capital formation from the average ROR of capital? One needs to look at the return on existing capital separately from new additions in a similar manner to how retailers compare same-store sales on a YOY basis separately to sales from new stores. Many of the modern behemoths of the stock exchange — Microsoft, Apple, Google, Facebook, etc. — were unheard of 20 years ago. They were formed not by existing capital but by new capital development.
There is an old maxim: “when you summarize you sacrifice”. The quality of summarized information rapidly deteriorates as it is aggregated. Far better to examine the Forbes 400 wealthiest individuals in the US today. This will give us an idea of much current wealth is inherited (i.e. derived from patient capital accumulation): more than 70% of the Forbes 400 are listed as “self-made”.
NO, Piketty does not exclude new capital formation. He includes it all along with the lost capital that results from “creative destruction”. Despite the phenomenal success of Apple, The US economy has growth slowly in historical terms.
The new capital forms part of the growth in the economy and part of the ROR on capital, It should be on both sides of the equation as you seem to imply.
The Forbes 400 details the richest individuals. Their wealth totals a modest $2 Trillion. This group is accumulating wealth at about 8 times the growth rate of the economy. We we also know that the total wealth of corporations is far greater than that of individuals, and they too are outgrowing the economy.
If you assume that the average rate of return on capital in the Alpha Republic is 5% (after accounting for inflation) and that the rate of growth of the economy of the Alpha Republic is “only” 4%. Then after deducting that portion of economic growth that is earned by Capital, then what portion is left for consumption?
Yes, it depends. But you get the point. Pirates are famous for that.
New capital formation does not form part of the ROR on existing capital. When you summarize you sacrifice.
We are talking about individuals, not corporations. To include both would be double-counting. And one would expect the Forbes 400 to reflect trends in the broader top 1% by wealth or income.
Not all corporate profits are distributed to shareholders and spent as part of consumption, but the retained balance is mostly invested and still forms part of aggregate demand.
The entire economy is the product of Capital and Labour. If both grow equally then the balance between them cannot change. If one grows faster than the other then the balance must change.
If you don’t agree with that I will be very displeased. Even cross.
If one grows faster than the other…. then both are growing. The concern is that the return to Labor is shrinking, or at least growing at a slower rate than the population so the average is falling.
Piketty identifies that capital is earning more than labor and proposes that we increase taxes on capital. That is like putting a band aid on a tumor.
There are three primary causes of the imbalance:
Globalization has benefited corporations while hurting labor. The same with technological innovation. But it will be difficult to reverse either of these trends. We can however address currency manipulation.