Thomas Piketty And Common Sense

Thomas Piketty is back in the news, seems that he turned down the attempt of the French government to honor in work, Capital In The 21st Century.  Paul Krugman has pronounced the book the most important economics book of the year, if not the decade.  Perhaps such damnation by Krugman is what Piketty deserves.  Essentially Piketty confuses wealth with capitalism.  This is the major assumption that fails the common sense test, for wealth and capitalism are not one and the same by any measure.  Capital is represented by buildings, machinery, and money employed or about to be employed into assets that stimulate production of goods and services.  Wealth is a different classification of value.  Some may argue that I am just getting picky about accounting entities.

Capital comes in all forms.  One may have saved up nickles and dimes so as to buy a plot of land in the city’s business district with the purpose to build a store from which to sell goods or services.  That plot of land is now an asset.  If represents capital since one intends to use it to create a business which will employ at least one individual.  It is also an asset that represents wealth, that is, it has a certain value as raw land and can command a minimum price at sale.  Wealth is a relative value for one may have bought that plot of land at too high a price and if forced to sell, will lose a portion of the price previously paid.  Now one begins to build some sort of structure.  So I dig the trenches, pour the foundations, erect the framework, and lay the brick.  In fact I do everything it takes to complete that building.  Now I have two forms of capital represented by that structure.  The materials uses, which had to be bought and paid for on delivery, and my own labor, for which i received no payment.  My labor has a value but upon selling the property the IRS will not take my contribution into account as an expense.  Never the less, my labor is a form of capital often referred to as sweat equity.  My wealth has increased for now I can sell this property and possibly recoup the cost of my labor.  This represents wealth but only when my asset is liquidated and becomes cash.  True, if I am in most European countries my asset would be classified as wealth and would be taxed as such.

So now I have a building from which to operate.  Maybe I will operate a machine shop and sell finished machine parts.  For this I need machinery and by buying this machinery I am investing in capital equipment.  Capital equipment means that this machinery has a long life and is not an expense like a screw driver or hammer.  I may have to borrow money with which to pay for the machinery I wish to purchase and use.  The money I borrow is capital for the business but it is also a loan, or on one side of the ledger it is a credit and on the other side it is a debit.  Notice that the machinery does not increase my net worth.  Liabilities cancel out assets to equal net worth.  And assets are usually priced for what they may fetch at auction while liabilities retain their full cash value.  You see, wealth is what some other fellow is willing to pay you for your assets.  A diamond may be worth millions of dollars but until it is sold or stolen it has only value and not cash in the bank.  Its sole function may be only that of making a woman’s neck look pretty.  It will not pay interest on its value nor will it make goods or services.  It simply exists as an attractive sparkling thing.Possessing a diamond is not possessing a capital asset unles one is in the jewelry business.  So many socialists miss this very point.

Piketty’s argument is that, in an economy where the rate of return on capital outstrips the rate of growth, inherited wealth will always grow faster than earned wealth. So the fact that rich kids can swan aimlessly from gap year to internship to a job at father’s bank/ministry/TV network – while the poor kids sweat into their barista uniforms – is not an accident: it is the system working normally.

If you get slow growth alongside better financial returns, then inherited wealth will, on average, “dominate wealth amassed from a lifetime’s labour by a wide margin”, says Piketty. Wealth will concentrate to levels incompatible with democracy, let alone social justice. Capitalism, in short, automatically creates levels of inequality that are unsustainable. The rising wealth of the 1% is neither a blip, nor rhetoric.

If he is right, the implications for capitalism are utterly negative: we face a low-growth capitalism, combined with high levels of inequality and low levels of social mobility. If you are not born into wealth to start with, life, for even for the best educated, will be like Jane Eyre without Mr Rochester.

The UK newspaper, The Guardian offers a synopsis, part of which I have used here.  One can see with the help of history that such a thesis is not true.  Arkwright was not a wealthy man when he made his mechanical spinning machines.  He came from a family that had few financial assets and worked as a barber while spending his spare time inventing.  One may peruse the history of invention and discover that most of those families where wealth had been inherited for several generations do not engage in invention and start up business.  Bill Gates was not a billionaire when he started MicroSoft.  The inventors of Apple Computer were not the scions of wealthy families who had inherited their wealth.  The Guaridal continues:

To understand why the mainstream finds this proposition so annoying, you have to understand that “distribution” – the polite name for inequality – was thought to be a closed subject. Simon Kuznets, the Belarussian émigré who became a major figure in American economics, used the available data to show that, while societies become more unequal in the first stages of industrialisation, inequality subsides as they achieve maturity. This “Kuznets Curve” had been accepted by most parts of the economics profession until Piketty and his collaborators produced the evidence that it is false.

In fact, the curve goes in exactly the opposite direction: capitalism started out unequal, flattened inequality for much of the 20th century, but is now headed back towards Dickensian levels of inequality worldwide.

One of the most compelling chapters is Piketty’s discussion of the near-universal rise of what he calls the “social state”. The relentless growth in the proportion of national income consumed by the state, spent on universal services, pensions and benefits, he argues, is an irreversible feature of modern capitalism. He notes that redistribution has become a question of “rights to” things – healthcare and pensions – rather than simply a problem of taxation rates. His solution is a specific, progressive tax on private wealth: an exceptional tax on capital, possibly combined with the overt use of inflation.

Piketty’s Solution

  • Global Wealth Tax
  • 15% tax on capital
  • 80% tax on incomes above $500,000


What Piketty did was to examine several hundred years of French government records which started right after the French Revolution and continues to this day.  The records are extensive and fairly complete.  What the French records show is that except for the few war years the ratio of capital to income remains steady at seven to one.  This is his benchmark state and ratio.  Yet France is not exactly the poster child for income equality, is it?  It has all three of the remedies Piketty wants to employ in the US but it is a country where its social spending has run rampant and far outstrips the government’s ability to pay for it.  Its industrial sector is constantly closing more factories and the nation suffers an eleven percent unemployment rate.  And if one is Muslim that unemployment rate is far higher.  And the French government continues to heap regulation upon regulation on businesses as it continues to grossly interfere in the market place.  His theme that a theory first approach to modern economics is dead end does not apply to his own theory first approach that income inequality is corrected with extreme income/asset reallocation.  He has not the least understanding of how an economy works or at least should work.

Communism is a social state, one in which socialism has run the logical course to total stupidity.  The state owns all means of production and markets are merely distribution queues.  Healthcare was free assuming one could find a provider and the necessary procedures and medical supplies.  The USSR so proudly hailed its health care system and yet when close scrutiny showed that the care provided was at best uneven inits distribution and at worst non existent, those who espoused government provided health care were the last to acknowledge such a state of affairs.  Even now we see that the vaunted UK and Canadian health care system restricts the distribution of health care.  There are budget restrictions for the amount of health care procedures that can be provided and your clinic runs out before you get your procedure, tough luck, you will just have to wait.  The basic health care services in Europe is, overall, generally good.  It is the specific procedures where the problems occur.  And the cost is kept low through the simple expedient of making doctors and other health care workers government employees.  Yes, France does have a few private hospitals and these care facilities are extremely high, only the wealthy can afford that advanced state of care.

The real problem of income inequality is that we allow through the legal means to accumulation of assets, often financed by excessive liabilities into the hands of large corporations and individuals who control them or own them.  Perhaps we should go back to requiring proprietorship instead of corporations.  Of course the Supreme court has ruled that corporations have human legal rights.  Maybe they should pay human tax rates.  If income inequality is a problem, and quite frankly I believe it is, then let us break up the big corporations as we did the big trusts the turn of last century.  What good are low Walmart prices if you can’t afford to buy at Walmart?  But if our only solutions are tax far more and spend far more, then isn’t that saying that the system is broke and needs to be fixed?  We have over ten thousand federal laws on the books now and we still have social problems.  Maybe we need to start ruthlessly weed out nine thousand of them.


One thought on “Thomas Piketty And Common Sense

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