CAPITAL IN THE TWENTY-FIRST CENTURY
Author: Thomas Piketty
(Translated by Arthur Goldhammer)
Publisher: Harvard University Press
Pages: 685 pp
Price: $39.95
That Thomas Piketty's Capital in the Twenty-First Century is being described as the most influential and novel book about economics in the past decades will not surprise its author. Before he begins, he describes his book's lineage - through Malthus and Marx, Kuznets and Solow. Anything less than the rapturous reception it has received would have shamed this illustrious line-up.
Piketty would not be surprised for another reason: he has a hearty contempt for the subject matter of economics these days. It is dominated, he would say, by Anglo-American empiricists obsessed with small questions and precise answers. He is a Frenchman, and naturally, therefore, has grander desires. "The discipline of economics," Piketty writes, "has yet to get over its childish passion for mathematics." Piketty, with relish, describes how in his native France, economists are generally spurned, which meant that he had to write a book that would convince "historians and sociologists", two sets of individuals who otherwise do not even figure on the average economist's intellectual horizons.
The fact that Piketty sets out with this determination to write a great book of economics that is nevertheless an attack on economics accessible to non-economics is, in fact, a large part of the reason for the book's success commercially. It is also a large part of its failure intellectually. More on that later.
Although Piketty does not hide his contempt for theoretical economics, he is no anti-empiricist. In fact, Capital grew out of a decade of work assembling data sets on inequality. Kuznets, as he pointed, out, had assembled data on incomes of the top decile of Americans from 1913 to 1948. Piketty's first work was to extend Kuznets' time series - and he discovered that, far from a continuation of the benign process Kuznets saw in which relative incomes of the richest declined, the reverse was happening, particularly quickly after the 1980s. Similar exercises were undertaken for various other countries. I spent a couple of summers in the early 2000s hunting down tax returns for the wealthiest Indians through the 1990s, to add to Piketty's data set. The Income Tax Office, no doubt deeply irritated by my demands, no longer shares this data.
It is Piketty's data that informs his gloomy conclusion. For too long economists have been blase about inequality, he tells us, assuming that it will all work out in the end. This instinct is shaped by our knowledge of the first decades of the 20th century, when inequality - in wealth and in income - did in fact decrease. But, as Piketty argues, that process has been reversed since. In fact, the years between 1910 and 1950 were outliers, according to Piketty, thanks to the capital destruction in two World Wars and the Great Depression. After 1950, capital slowly began to reacquire the primacy over labour that it had had for most of the long 19th century.
Indeed, it is Piketty's claim that this process is natural. It is a force of divergence, to use his terms, that is usually stronger than any force of convergence. And this is what he has represented in his famous expression comparing r, the rate of return on capital, and g, the growth rate of the economy. If r is greater than g, Piketty argues, inequality will continue to increase. And, he further claims, r is usually higher than g. Indeed, he makes at one point the startling claim that "the primary reason for the hyperconcentration of wealth in traditional agrarian societies, and to a large extent in all societies prior to World War I... is that these were low-growth societies in which r was markedly and durably higher than g." The intuition is simple: if I live off rental income, then the higher r is as compared to g, the less I have to consume in order to keep my share of the country's capital relatively constant. That would produce, Piketty, says, an "inheritance society".
This is the core of Piketty's book. The rest of it is a trenchant history of the nature of and attitudes to capital in the 20th century, a description of the forces driving income inequality in the US in particular, and a polemic in favour of progressive and global taxation. These are interesting and well written sections. But they are not what sets this book apart. It is "r>g" that does that.
But the problem is that, of course, this is a "reduced form" - an incredibly complex idea reduced to a single inequation. Piketty, who spends a few pages blustering about finance prior to 2008, and a few pages blustering about models, should really have learnt from the errors of finance and avoided reduced forms. And if he had spent a little less time appealing to sociologists, and a little more time talking to economists, he might have been forced into realising why "r>g" is little more than a useless caricature. For example, the question arises: what is "r"? Is it the case that there is such a thing as riskless wealth? There was in the 19th century, sure. Today, sadly, the best we have is the rate of return on US Treasury Bills. For one-year bills, r is 0.1 per cent; the US rate of growth is between 2.5 and 3.5 per cent over the next couple of years.
Piketty will argue that the purer the finance markets, the more easily will the rich avoid risk completely. Sure, that's possible - there are tax havens, and complex financial securities, and so on. But for a man who insists on empirics, the odd fact is that this claim, about how the rich can access a uniform r that is higher than g, is not really backed up with data.
Indeed, the problems with r>g are most apparent when we move away from the West, and examine the causes of inequality in, say, India or China. In China, financial repression means that r<g; and yet inequality rises. In India, even if r were to be less than g, inequality might well rise because of entrenched discrimination and variable access human capital. The focus on r and g is not wrong; it is distracting.
So why is Capital the book du jour? The sad truth is that it purports to explain something that people are already concerned about in the West: rapidly increasing inequality. Inequality undermines assumptions about meritocracy, and support for the democratic order, some complain. But the truth is that inequality actually reveals the assumptions were wrong. Work by Harvard's Alberto Alesina in the 1990s revealed that only countries where social and economic mobility is observed will support laissez-faire economics. In the US, mobility has come to a halt; and trust in economics has been undermined. It is this gap that Piketty fills. He could have written anything he likes in five-sixths of his book. It could have been a history of menus in Left Bank restaurants. But as long as he claimed that r>g meant that rising inequality was inescapable, it would have been a hit.
Author: Thomas Piketty
(Translated by Arthur Goldhammer)
Publisher: Harvard University Press
Pages: 685 pp
Price: $39.95
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That Thomas Piketty's Capital in the Twenty-First Century is being described as the most influential and novel book about economics in the past decades will not surprise its author. Before he begins, he describes his book's lineage - through Malthus and Marx, Kuznets and Solow. Anything less than the rapturous reception it has received would have shamed this illustrious line-up.
Piketty would not be surprised for another reason: he has a hearty contempt for the subject matter of economics these days. It is dominated, he would say, by Anglo-American empiricists obsessed with small questions and precise answers. He is a Frenchman, and naturally, therefore, has grander desires. "The discipline of economics," Piketty writes, "has yet to get over its childish passion for mathematics." Piketty, with relish, describes how in his native France, economists are generally spurned, which meant that he had to write a book that would convince "historians and sociologists", two sets of individuals who otherwise do not even figure on the average economist's intellectual horizons.
The fact that Piketty sets out with this determination to write a great book of economics that is nevertheless an attack on economics accessible to non-economics is, in fact, a large part of the reason for the book's success commercially. It is also a large part of its failure intellectually. More on that later.
Although Piketty does not hide his contempt for theoretical economics, he is no anti-empiricist. In fact, Capital grew out of a decade of work assembling data sets on inequality. Kuznets, as he pointed, out, had assembled data on incomes of the top decile of Americans from 1913 to 1948. Piketty's first work was to extend Kuznets' time series - and he discovered that, far from a continuation of the benign process Kuznets saw in which relative incomes of the richest declined, the reverse was happening, particularly quickly after the 1980s. Similar exercises were undertaken for various other countries. I spent a couple of summers in the early 2000s hunting down tax returns for the wealthiest Indians through the 1990s, to add to Piketty's data set. The Income Tax Office, no doubt deeply irritated by my demands, no longer shares this data.
It is Piketty's data that informs his gloomy conclusion. For too long economists have been blase about inequality, he tells us, assuming that it will all work out in the end. This instinct is shaped by our knowledge of the first decades of the 20th century, when inequality - in wealth and in income - did in fact decrease. But, as Piketty argues, that process has been reversed since. In fact, the years between 1910 and 1950 were outliers, according to Piketty, thanks to the capital destruction in two World Wars and the Great Depression. After 1950, capital slowly began to reacquire the primacy over labour that it had had for most of the long 19th century.
Indeed, it is Piketty's claim that this process is natural. It is a force of divergence, to use his terms, that is usually stronger than any force of convergence. And this is what he has represented in his famous expression comparing r, the rate of return on capital, and g, the growth rate of the economy. If r is greater than g, Piketty argues, inequality will continue to increase. And, he further claims, r is usually higher than g. Indeed, he makes at one point the startling claim that "the primary reason for the hyperconcentration of wealth in traditional agrarian societies, and to a large extent in all societies prior to World War I... is that these were low-growth societies in which r was markedly and durably higher than g." The intuition is simple: if I live off rental income, then the higher r is as compared to g, the less I have to consume in order to keep my share of the country's capital relatively constant. That would produce, Piketty, says, an "inheritance society".
This is the core of Piketty's book. The rest of it is a trenchant history of the nature of and attitudes to capital in the 20th century, a description of the forces driving income inequality in the US in particular, and a polemic in favour of progressive and global taxation. These are interesting and well written sections. But they are not what sets this book apart. It is "r>g" that does that.
But the problem is that, of course, this is a "reduced form" - an incredibly complex idea reduced to a single inequation. Piketty, who spends a few pages blustering about finance prior to 2008, and a few pages blustering about models, should really have learnt from the errors of finance and avoided reduced forms. And if he had spent a little less time appealing to sociologists, and a little more time talking to economists, he might have been forced into realising why "r>g" is little more than a useless caricature. For example, the question arises: what is "r"? Is it the case that there is such a thing as riskless wealth? There was in the 19th century, sure. Today, sadly, the best we have is the rate of return on US Treasury Bills. For one-year bills, r is 0.1 per cent; the US rate of growth is between 2.5 and 3.5 per cent over the next couple of years.
Piketty will argue that the purer the finance markets, the more easily will the rich avoid risk completely. Sure, that's possible - there are tax havens, and complex financial securities, and so on. But for a man who insists on empirics, the odd fact is that this claim, about how the rich can access a uniform r that is higher than g, is not really backed up with data.
Indeed, the problems with r>g are most apparent when we move away from the West, and examine the causes of inequality in, say, India or China. In China, financial repression means that r<g; and yet inequality rises. In India, even if r were to be less than g, inequality might well rise because of entrenched discrimination and variable access human capital. The focus on r and g is not wrong; it is distracting.
So why is Capital the book du jour? The sad truth is that it purports to explain something that people are already concerned about in the West: rapidly increasing inequality. Inequality undermines assumptions about meritocracy, and support for the democratic order, some complain. But the truth is that inequality actually reveals the assumptions were wrong. Work by Harvard's Alberto Alesina in the 1990s revealed that only countries where social and economic mobility is observed will support laissez-faire economics. In the US, mobility has come to a halt; and trust in economics has been undermined. It is this gap that Piketty fills. He could have written anything he likes in five-sixths of his book. It could have been a history of menus in Left Bank restaurants. But as long as he claimed that r>g meant that rising inequality was inescapable, it would have been a hit.