Revolutionary analysis questions basic distribution of wealth

Few economists inspire popular movements, but Thomas Piketty has. "We are the 99 per cent", the slogan of the Occupy Movement, was based on his in-depth analysis with Emmanuel Saez of income distribution and inequality in the US in 2003.

The Frenchman's new book Capital in the 21st Century is already causing a stir. Some reviewers have called it the economic book of the year, others of the decade.

Piketty’s ground-breaking work on the historical evolution of income distribution is impressive, but he covers many other areas, including the erosion of meritocracy by inherited wealth, public debt, education, health and taxation. He also proposes challenging ideas for funding the social state in the 21st century.

Piketty’s central point is that when the rate of return on capital exceeds the rate of economic growth, the economy automatically generates arbitrary and unsustainable inequalities which undermine the meritocratic values on which democracy is based.

Unless capital owners consume all of the return on their capital, more will remain for them and they get richer, effortlessly.

In the late 19th century, the amount of private wealth was a staggering six or seven years of national income.

Two world wars and the Depression wiped out much of this wealth and, since the second World War, the emergence of welfare states, nationalisation of monopolies, labour-friendly governments and high income and inheritance taxes greatly reduced accumulated capital.

In the public mind, that trend towards equality seemed to be normal, but Piketty shows it was an exceptional period, which will not be repeated on current trends.

It is already over in the US, where average real incomes have hardly risen since the 1970s, despite high productivity. The labour share of national income has been declining in most countries for over 30 years.

False optimism
This optimistic public misperception was shaped by the work of Nobel economist Simon Kuznets, who argued that, as economies developed, inequality appeared to fall and then stabilised. The labour share of national income seemed to stabilise at about 75 per cent. The distributional issue seemed to be settled and economists ignored it and most still do.

However, Kuznets only examined a short period of time (1914-1948) and only the US. It was the wars, the Depression and state “interference” that reduced the inequality, rather than any self-correcting market mechanism, he argues.

In Capital 's 650 pages of tightly argued data-based economics, Piketty and others have compiled their argument from data stretching back to the 1700s.

There is renewed interest in inequality even by the elites in Davos, the G20, the OECD, and the International Monetary Fund. It emanates in large part from growing public anger at widespread non-payment of tax by highly profitable multinationals. This is pushing people away from politics as politicians plead they are prisoners of tax competition in order to attract foreign investment.

Picketty argues we are seeing the return of inheritance-based capitalism, which he calls “patrimonial capitalism”.

The annual flow of inheritance in major countries is again the same as a century ago, at 8-10 per cent of national income and growing.

Along with economist Robert J Gordon, Picketty believes that high growth rates of 4-5 per cent are over for the economies of rich countries.

This means the ownership of wealth conveys great ability to accumulate more, unless there is high taxation on such fortunes.

He points out that Europe is very rich, but wealth is very unequally distributed and many of its nations are poor with huge debt. Picketty argues for a European progressive tax on private wealth over a decade to reduce public debt towards 60 per cent of national income, the figure espoused in EU treaties.

He admits this is a utopian idea, but notes that such exceptional taxes were levied in European countries after the second World War.

Top rates of tax on estates remained between 70 and 80 per cent and income tax rates on high incomes were up to 60 to 80 per cent in the US and Britain from the early 1940s to 1970s.

He argues less for high income taxes than for this annual progressive tax on capital. This will encourage entrepreneurship, innovation, new accumulation and halt the unlimited growth of inequality of wealth.

International co-operation is required for such a tax – along much the same lines as the current OECD/G20 push for reform of corporate taxes across national boundaries – but the alternative is stagnation and the decline of democracy.

He points out that we have little information on who owns what. There is no European balance sheet. Without this knowledge of ownership of capital, it is difficult to have an effective taxation system and, as we have seen from the financial crisis, to regulate capitalism itself.

Popular outrage
Change can surprise. In Ireland, there have been substantial increases in taxes on capital since the financial crisis and the gap between high and low incomes has closed dramatically in the public sector and, to a lesser extent, in the private sector. Closure of this gap in incomes had not occurred since the 1930s. Popular outrage internationally at wholesale corporate tax avoidance is finally leading to co-ordinated action.

Capital in the 21st Century will be embraced by progressives and rejected by conservatives wary of change. But, if those conservatives who support a meritocracy are convinced, it could be a catalyst for reform. This book is challenging, but one of the best economic books in decades.

Thomas Piketty will be in Dublin to speak at the Tasc annual conference on Friday, June 20th. Paul Sweeney is an economist