ideas never really die but go in and out of fashion with changing circumstances. Liberals, progressives, and social democrats were shocked by the comeback of free-market ideas in the 1980s after they assumed those ideas had been buried once and for all by the Great Depression. In a similar vein, free-market and “small government” advocates are now surprised by the return of social-democratic doctrines that they assumed had been refuted by the “stagflation” of the 1970s and the success of low-tax policies in the 1980s and 1990s. Piketty’s book has garnered so much attention because it is the best statement we have had in some time of the redistributionist point of view.
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For all the attention and praise it has received, the book is a flawed production in at least three important respects. First, it mischaracterizes the past three or four decades as a time of false rather than real prosperity, and it distorts the overall history of American and European capitalism by judging it in terms of the single criterion of equality versus inequality. Second, it misunderstands the sources of the “new inequality.” Third, the solutions it proposes will make matters worse for everyone—the wealthy, the middle class, and the poor alike. The broader problem with the book is that it advances a narrow understanding of the market system, singling out returns to capital as its central feature and ignoring the really important factors that account for its success over a period of two and a half centuries.
Piketty addresses an old question dating back to the nineteenth century: Does the capitalist process tend over time to produce more equality or more inequality in incomes and wealth?
The consensus view throughout the nineteenth century was that rising inequality was an inevitable byproduct of the capitalist system. In the United States, Thomas Jefferson tried to preserve an agricultural society for as long as possible in the belief that the industrial system would destroy the promise of equality upon which the new nation was based. In Great Britain early in the nineteenth century, David Ricardo argued that because agricultural land was scarce and finite, landowners would inevitably claim larger shares of national wealth at the expense of laborers and factory owners. Later, as the industrial process gained steam, Marx argued that competition among capitalists would lead to ownership of capital in the form of factories and machinery becoming concentrated in fewer and fewer hands, while workers continued to be paid subsistence wages. Marx did not foresee that productivity-enhancing innovations, perhaps together with the unionization of workers, would cause wages to rise and thereby allow workers to enjoy more of the fruits of capitalism.
Perspectives on the inequality issue changed in the twentieth century due to rising incomes for workers, continued improvements in worker productivity, the expansion of the service sector and the welfare state, and the general prosperity of the postwar era. In addition, the Great Depression and two world wars tended to wipe out the accumulated capital that had sustained the lifestyles of the upper classes. In the 1950s, Simon Kuznets, a prominent American economist, showed that wealth and income disparities leveled out in the United States between 1913 and 1952. On the basis of his research, he proposed the so-called “Kuznets Curve” to illustrate his conclusion that inequalities naturally increased in the early phases of the industrial process but then declined as the process matured, as workers relocated from farms to cities, and as “human capital” replaced physical capital as a source of income and wealth. His thesis suggested that modern capitalism would gradually produce a middle-class society in which incomes did not vary greatly from the mean. This optimistic outlook was nicely expressed in John F. Kennedy’s oft-quoted remark that “a rising tide lifts all boats.”
From the perspective of 2014, Piketty makes the case that Marx was far closer to being right than Kuznets. In his view, Kuznets was simply looking at data from a short period of history and made the error of extrapolating his findings into the future. Piketty argues that capitalism, left to its own devices, creates a situation in which returns to capital grow more rapidly than returns to labor and the overall growth in the economy.
This is Piketty’s central point, which he takes to be a basic descriptive theorem of the capitalist order. He tries to show that when returns to capital exceed growth in the economy for many decades or generations, wealth and income accrue disproportionately to owners of capital, and capital assets gradually claim larger shares of national wealth, generally at the expense of labor. This, he maintains, is something close to an “iron law” of the capitalist order.
He estimates on the basis of his research that since 1970 the market value of capital assets has grown steadily in relation to national income in all major European and North American economies. In the United States, for example, the ratio increased from almost 4:1 in 1970 to nearly 5:1 today, in Great Britain from 4:1 to about 6:1, and in France from 4:1 to 7:1. Measured from a different angle, income from capital also grew throughout this period as a share of national income. From 1980 to the present, income from capital grew in the United States from 20 to 25 percent of the national total, in Great Britain from 18 to nearly 30 percent, and in France from 18 to about 25 percent. These changes weigh heavily in Piketty’s narrative, which stresses the outsized role that capital has seized in recent decades in relation to labor income.
There is nothing original or radical in the proposition that returns to capital generally exceed economic growth. Economists and investors regard it as a truism, at least over the long run. For example, the long-term returns on the U.S. stock market are said to be around 7 percent per annum (minus taxes and inflation) while real growth in the overall economy has been closer to 3 percent. This is generally thought to be a good thing, since returns to capital encourage investment, and this in turn drives innovation, productivity, and economic growth.
But it does not follow that returns to capital, even if they are greater than overall growth in incomes, must be concentrated in a few hands instead of being distributed widely in pension funds, retirement accounts, college and university endowments, individual savings, dividends, and the like. Nor is it true that higher returns to capital must come at the expense of labor, since growing productivity advances the standard of living for everyone; workers benefit along with everyone else when their savings or pensions grow with increasing returns to capital. The low and still falling interest rates of recent decades suggest that returns for at least some forms of capital are similarly falling. There is also a natural check on the concentration of capital: owners of capital die sooner or later, at which time their assets are disbursed through estate taxes, charitable gifts, and bequests to heirs.
Why, then, has capital grown in recent decades as a share of national income and in relation to labor income? The answer is to some extent embedded in Piketty’s definition of “capital.” He defines “capital” in a broad way to include not only inputs into the production process, like factories, equipment, and machinery, but also stocks, bonds, personal bank deposits, university and foundation endowments, and residential real estate—all assets that are subject to substantial year-to-year fluctuations in market value. In his measure of “capital,” then, Piketty is undoubtedly incorporating the explosion in asset prices that has occurred since the early 1980s, especially in stocks and to a lesser degree in real estate as well.
Many reviewers of Capital in the Twenty-First Century have slighted Piketty’s larger themes of the “iron law” of capitalism, the increasing returns to capital, and the competition between labor and capital for shares of national income. Instead, every major review of the book dwells at length on its documentation of rising inequality and its call for new and higher taxes on the wealthy. Piketty sees inequality as an inevitable byproduct of modern capitalism, and substantially higher taxes as the only means of remedying it.
He has assembled a wealth of data that allow him to trace the distribution of wealth and incomes in the United States and Western Europe from late in the nineteenth century to the present day. His analysis yields a series of U-shaped charts showing that the shares of wealth and income claimed by the top 1 percent or 10 percent of households peaked between 1910 and 1930, then declined and stabilized during the middle decades of the century, and then began to rise again after 1980.
In
