Over at Equitable Growth: The Four Must-Reads You Need to Understand Thomas Piketty and His "Capital in the Twenty-First Century": Focus
Over at Equitable Growth: I have a new list of three articles that bring you up to speed on the current state of the process of assessing and assimilating Thomas Piketty's Capital in the Twenty-First Century:
...between r and g is indeed one of the important forces that can explain historical magnitudes and variations in wealth inequality: in particular, it can explain why wealth inequality was so extreme and persistent in pretty much every society up until World War I.... That said, the way in which I perceive the relationship between r > g and wealth inequality is often not well-captured in the discussion that has surrounded my book--even in discussions by research economists.... For example, I do not view r > g as the only or even the primary tool for considering changes in income and wealth in the 20th century, or for forecasting the path of income and wealth inequality in the 21st century. Institutional changes and political shocks--which can be viewed as largely endogenous to the inequality and development process itself.... READ MOAR
My book is primarily about the history of the distribution of income and wealth.... My book is probably best described as an analytical historical narrative based upon this new body of evidence. In this way, I hope I can contribute to placing the study of distribution and of the long-run back at the center of economic thinking.... In this essay, I will take up several themes from my book that have perhaps become attenuated or garbled.... I stress the key role played in my book by the interaction between beliefs systems, institutions, and the dynamics of inequality.... I briefly describe my multidimensional approach to the history of capital and inequality.... I review the relationship and differing causes between wealth inequality and income inequality.... I turn to the specific role of r > g in the dynamics of wealth inequality.... I consider some of the scenarios that affect how r−g might evolve in the 21st century.... Finally, I seek to clarify what is distinctive in my historical and political economy approach to institutions and inequality dynamics, and the complementarity with other approaches...
...But what keeps r high? Piketty never explicitly says. This question is at the heart of... how to interpret his book.... The conventional liberal economist’s interpretation of Piketty’s work... stays inside orthodox growth theory.... [This] misunderstands capital by putting politics outside the production function, rather than inside it. The increasing elasticity of substitution between ‘capital’ and ‘labor’ may be as much determined by institutions and property rights as by technology.... The robot economy and the slave economy may both have higher elasticities of substitution than industrial capitalism....
Capital is a set of property rights entitling bearers to politically protected rights of control, exclusion, transfer, and derived cash ﬂow.... The book... contains an excellent section on the gap between cash-ﬂow rights and control rights in corporate governance, which suggests a capital demand schedule derived not just from ﬁrm optimization decisions, but from the distribution of power within the firm.... The collapse in the capital and top income shares after World War II (and other wars) came along with radical transformations of all kinds of economic institutions, with millions of dead, sui generis geopolitics, and a host of newly mobilized popular forces.... Piketty oscillates between paying homage to fundamental forces of technology, tastes, and supply and demand, and then backtracking to say that politics and institutions are important...
...predicts a rise in capital’s share of income and the gap r-g between capital returns and growth. In this note, I argue that neither outcome is likely given realistically diminishing returns to capital accumulation. Instead--all else equal--more capital will erode the economy-wide return on capital.
When converted from gross to net terms, standard empirical estimates of the elasticity of substitution between capital and labor are well below those assumed in Capital. Piketty (2014)’s inference of a high elasticity from time series is unsound, assuming a constant real price of capital despite the dominant role of rising prices in pushing up the capital/income ratio. Recent trends in both capital wealth and income are driven almost entirely by housing, with underlying mechanisms quite different from those emphasized in Capital.
...The really dramatic issue: the tendency for the very top incomes--the “1 percent”--to pull away from the rest... forty-year trend common to the advanced economies of the United States, Europe, and Japan.... I will call it the “rich-get-richer dynamic.” The mechanism is a little more complicated than Piketty’s book lets on... [but] you get the picture: modern capitalism is an unequal society, and the rich-get-richer dynamic strongly suggest that it will get more so. But there is one more loose end to tie up... the advent of very high wage incomes.... Piketty... attributes this to the rise of what he calls “supermanagers”... top executives... financial services.... Another possibility, tempting but still rather vague, is that top management compensation... [is] a sort of adjunct to capital.... The class of supermanagers belongs socially and politically with the rentiers, not with the larger body of salaried and independent professionals and middle managers...
Are these the right four articles? Are there others that should rank with them?
As for me, I still think what I thought ten months ago:
Over at the Washington Center for Equitable Growth: Piketty Day Here at Berkeley: The Honest Broker for the Week of April 26, 2014 (Brad DeLong's Grasping Reality...): There are a bunch of people making nonserious complaints:
- That Piketty goes too far in coquetting with some of the modes of expression of Karl Marx.
- That Piketty's arguments lead to political conclusions regarding the desirability of more progressive income and wealth taxation that they do not like.
- That Piketty's arguments lead the political conclusions regarding the desirability of more progressive income and wealth taxation that those who write their paychecks do not like.
- That Piketty's analysis indicates that the dirty hippies of the Occupy Movement were right after all, and that is intolerable....
[But] what do we think of the (serious) critiques of pieces of the argument?"
((That Piketty tacks back-and-forth between a market value and a physical quantity conception of capital:** Yes. He does. He shouldn't. It is a potential source of confusion--and it has, I think, confused some readers. But this seems to me to be a very minor criticism: recognize that he is talking about the market value of wealth understood as capitalized claims on incomes from whatever source--land, location, buildings, machines, organizations, production processes, intellectual-property rights, protected monopolies, and so on--and things become clearer and the argument, I think, becomes stronger.
That Piketty speaks of 'tendencies' that can be counteracted when he ought to be doing comparative statics on the steady-state growth path: This is what I think. This is what my model of what Piketty is doing that I summarized here does. But, once again, not a biggie.
That Piketty has no real theory of what determines the rate of profit, and so doesn't have a real theory of wages either: This is what led to Matt Rognlie's complaints and his claims that Piketty ought to be saying that the processes of wealth accumulation he identifies (a) reduce the salience of the rich--that although they own more wealth relative to a year's national income they receive a smaller share of national income--and (b) amplify the real incomes of the not-rich and (c) lead not to less but more income inequality.
This criticism is, I think, in large part a consequence of criticism (1): if you have a physical-factor-of-production definition of 'capital' in the forefront of your mind, it is a very natural criticism to make. Piketty seems to need an additional argument here: that control over wealth shapes politics, and that politics will make sure that the rate of profit does not fall too far--that wealth is not allowed to compete with itself and so lower the rate of return and boost wages substantially as the process of wealth accumulation continues. It seems to me that Piketty has a good case here. But I think he needs to make it.
If he were to make it, what would he say? Suresh Naidu, I think, lays out the issues rather well. He speaks of the '"domesticated" version of [Piketty's] argument... a story about technology and the world market making capital and labor more and more substitutable over time, and this is why r does not fall very much as wealth accumulates.... This is story that is told to academic economists, and it is plausible, at least on the surface...' The problem for Piketty is that it is only plausible. There are the Matt Rognlie's who believe that capital and labor are not (yet) that substitutable (if they ever will be), and consequently that capital accumulation raises the bargaining power of labor by enough to guarantee rapidly-rising real wages and probably a rising labor share and thus a decreased salience of capital ownership in income if not in wealth. They look forward to at least a partial euthanasia of the rentier, and see the process of accumulation that Piketty describes as an equalizing rather than an unequalizing process. Thus, I think, the 'domesticated' version of Piketty--the one that speaks of wealth-as-productive capital, and of the return to wealth as the marginal physical product of that capital times the value of undifferentiated output, is relatively weak.
Suresh, however, does not believe in the 'domesticated' Piketty. He writes: 'There is another story... that the rate of return on capital is set much more by institutions, norms and expectations than by supply and demand.... I think the production approach is less plausible... housing [with land] plays such a large role... [in the 'domesticated' version] average wages would have increased along with K/Y [if factors are paid marginal products].... The (really great) sections from the book on corporate governance actually suggest something quite different... a gap between cash-flow rights and control rights.... This political dimension of capital, the difference between the valuation written down in the balance sheet and the real power to dispose of the asset, is something that the institutional view of capital can capture better than the marginal product view...' And here we have passed out of neoclassical economics entirely. Factors of production are no longer paid their marginal products. Instead, wealth controls government. Government sets barriers to keep those kinds of property that the wealthy control safe from competition and earning their rents. The government is an executive committee for managing the affairs of the ruling class. And, as a bonus, the property rights system acts as a fetter on the process of economic development because it is tuned not toward equalizing private and social values but toward enriching the already-rich.
As Suresh points out, if you adopt the 'domesticated' version of Piketty, then, first of all, nothing can be done save for progressive taxation: 'This is, I think, also a fruitful interpretation of what was at stake behind the old capital controversies.... If it is just a very high substitutability... labor market reforms are... off the table, as firms just replace workers with machines if you try to raise the wage...' In the 'domesticated' version, the market is working: labor is low-paid because it is not very valuable and capital is high-paid because it is very useful indeed. Plus, I would add, the 'domesticated' version is subject to Matt Rognlie's critique in a way that the wild version is not.
But by now we have arrived at the point that Piketty needs to write another book--a book about control rights and cash flow rights and the political economy of distribution and the state, a book that is (mostly) hidden behind Piketty's assumption that r will not fall by much as W/Y rises...
That Piketty's argument that the rate of profit has a floor needs to be spelled out: this is essentially (3) in a different form: the argument that accumulation might lead to more wealth equality but less income inequality and much higher real wages is a serious and important one. Piketty does not believe it. But what I see as his failure to deal with it head-on and convincingly is the biggest hole in the book.
That the true historical drivers of the process are not the rate of profit r and the growth rate of the economy g that Piketty speaks of, but rather (1) the economic destruction of the relative wealth of the old European aristocracy as its landed rents collapsed under the impact of competition from the new regions of European agricultural settlement in the New World; and then (2) the rise of urban landed wealth in the form of location as population growth and economic density have outran transportation technologies, and congestion has become a first-order economic cost: This is the economic historians' critique. It is one I still have to think about. It is clearly right: one of the things that destroyed European aristocratic oligarchies' wealth was New World agricultural competition that reduced valuation ratios, just as the landed wealth of the owners of Mayfair, Paris, and Manhattan is a substantial part of the runup in wealth. But is this a criticism of Piketty's argument or just a mechanism through which it works? I am not sure...