Tuesday, August 12, 2014

The absurdity of blaming capitalism for inequality - Part 1.

I was reminded of this Picketty quote, recently.  The now famous r > g formulation:
When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based.

And, it occurred to me how strange the identification here is with "capitalism".  Classes of elites living off of returns ("r") are hardly the invention of modern capitalism.  I suppose r has been aided by the state-supported defense of property rights, which do lie at the heart of the capitalist revolution.  But, as described by North, Wallis, and Weingast, the innovation of modern Western capitalism has been to extend those rights universally.  Pre-Victorian landed elites earned "r" well before Adam Smith was kicking around.  Capitalism extended their ownership rights to the peasant class.

So, two astounding innovations in human society mark modern capitalism.  Legally, the state supports ownership of property for essentially all individual citizens.  And, both culturally and legally, you aren't your brother's keeper.  Your extended family has no claim on your savings.  Both the landed elites and the peasants of a Jane Austen novel would find that incomprehensible.  As would just about any other human being that lived any time between them and Cro-Magnon hunters.

I may have linked to this before, but here is an Econtalk podcast with Mike Munger, where he & Russ Roberts discuss the practical results of microfinance.  From the summary:  "Munger argues that cultural forces make it difficult for some families to save, and the main value of microfinance is to allow a higher level of savings. Families are willing to save via microfinance even though returns can be negative."  That is because, for common people in pre-capitalist societies, "r" is -100%.

In a similar vein, here is a Robin Hanson post that I have linked to before about familial/tribal sharing dynamics. 

For the pre-capitalist landholding class, gross returns were positive, but these same family effects were in place, so that returns were generally consumed, and net "r" was negligible.  This meant that "g" was negligible.  This context is a context where social standing is fixed for generations, and where practically all economic inequality is inter-familial - because net r is negligible.

So, in this context, gross r is high and limited-access, and g is negligible, because net r is negligible.  The innovation of modern capitalism was to say, you're not responsible for your cousins or even your brothers any more, culturally and legally.  This meant that returns weren't all consumed - individuals could accumulate capital outside of land more easily.  Net r rose, and this allowed g to rise, too.  And, for the first time, trading, innovating, being productive, engaging in self-improvement, meant that peasants could have some r, too.

Given this history, the identification of r > g with capitalism and familial class stratification is strange.  A positive gross "r" is not a product of capitalism and a positive net "r" is due to capitalism, specifically related to the breakdown of familial class stratification. *

This misunderstanding leads to strange perspectives, such as this New York Times Magazine essay from Eric Spitznagel, about the relationship between him and his ultra-rich financial speculator brother.  The article is sprinkled with his concern for persistent inter-familial inequality, with lines, such as: "Mark wasn’t born rich. If he were, I would be rich, too."  But, even as he says this, he seems to take for granted that he has no legitimate claim to any of his brother's wealth.  He settles for wrestling his brother for their deceased father's keepsakes.  What an oddity.  Here's a writer angry about the stranglehold "the rich" have on our society and the unlevel playing field their families have compared to the rest of us, even as his brother is a living example of extreme income mobility.  And, along with all of this, the subtext of the piece is his frustration about the fact that he has no claim on his own brother's wealth.  He seems unreflective about how unusual this lack of fraternal support is in human experience and what a radical contrast this makes with the author's own concerns about the familial determinism of wealth.

I have linked to this Robin Hanson post before.  He points out how selective we are about which kinds of inequality we concern ourselves with.  One point he makes is that inequality between siblings accounts for 3/4 of inequality within a modern nation.  I suspect it is fairly common for most Americans to survey their siblings and cousins and find nearly the full range of American economic distribution.  Think about that...  Pre-capitalist economic station was almost completely predetermined by family.  Think of Jane Austen characters.  Their lives are filled with status decisions - status decisions determined overwhelmingly by what family they are born into or marry into.

So, 3/4 of the inequality of modern capitalist societies has indeed been created by capitalism.  This inequality now dwarfs all the forms of inequality that existed before.  This is an inequality otherwise known as economic mobility.

And, thinking further about our problems with inequality, the most profound problem it creates is the unlevel field of opportunities available to the members of a particular generation.  The complaint is that the rich can invest so much into the human capital of their children that the differences in opportunities between children become grotesque, and this leads to an intergenerational persistence of income inequality, because children of the rich capture a choice education in the high paying professions.

But, again, I say, step back a minute and think about what we are taking for granted here.  The idea that the rich would concern themselves with helping their children be productive is also result of capitalism.  As Deirdre McCloskey outlines, along with the ideas that individuals could accumulate capital and that the legal defense of capital wouldn't be limited to a small group of people, came the idea that productivity was tolerable.  This has become such a fundamental part of the Western point of view that we have to remind ourselves that it is unusual.  Again, thinking of Jane Austen characters, or even of people in many pre-capitalist societies today, for peasants, human capital would be largely unattainable or pointless.  For the landed elite, it would be insulting.  Traders and commercial innovators - producers - became tolerable, and capitalism was the result.

Because of the capitalist revolution, not only is being personally productive tolerated today, but we would find it incomprehensible to imagine it another way.  In fact, we are concerned about it!  We say: It's not fair that rich kids get the opportunity to be more productive!  Today, high income workers work longer hours than low income workers.  Imagine the look of confusion you might get from a pre-capitalist gentleman if you told him that in your society, the poor work fewer hours than the rich and the government is implementing school lunch programs to make sure poor kids don't ingest too many calories.  He wouldn't just have a hard time understanding how that could be.  Those words literally could not form that sentence.  You might as well speak martian to him.  Don't even try to explain to him that you're outraged by how the richest kids have an advantage in attaining productive employment.  He'll think you're crazy before you even get to that.

Economists like Bryan Caplan point out that much of education is costly signaling.  This is a contrarian stance today.  We want to believe that education is about human capital.  But, pre-capitalist elitists would have, again, thought us strange.  Universities that weren't meant for monks were meant to create wealthy men of letters.  Before capitalism made productivity cool, signaling was the point of it.

If we want less familial determinism, widespread growth, and social mobility, we are describing capitalism.  I am not saying that it can lead to these outcomes.  It is these things, in contrast to every other sustainable human system.  "The wretched refuse of your teeming shore" that give up their families to come taste a little bit of "g" wherever capitalism flourishes know this, even if we, like the proverbial fish in water, have forgotten.

We should certainly strive for better conditions for all our citizens.  But, if the problem is rent-seeking, then we need more capitalism, not less.  Capitalism didn't make rent-seeking obsolete, but where it functions well, it simply dwarfs it in magnitude.  In some ways, this point is just semantics, but framing clearly matters regarding our conclusions.

So, "When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based."?

If you are familiar with the struggles on the show Downton Abbey, that is what capitalism in the 19th century did to rentiers.  It wasn't that they had changed at all.  It's just that the rest of the world passed them by.  It's just that the son of the guy that used to shovel their stables was now driving a Model T.  Production outside the estate had eclipsed production inside the estate.  Their previous workers now garnered higher wages, and even if they could have survived that, their estate couldn't possibly provide the standard of living that a world full of aspirational productive people now saw as normal..... "g" happened.

Musing about the change in some equations when we adjust some variables by a few tenths of a percent and project the trends for a hundred years can be an interesting exercise, but we shouldn't forget that there was a regime shift in the world that created change that overwhelms these considerations.

*  (Regarding the breakdown of family, keep in mind that another way of saying this is that there was a breakdown in nepotistic thinking and acting.  An increased trust and honesty among strangers is the other side of the coin here.  Blood is thicker than water, but for the modern capitalist society, our moral and legal code calls for law and honest dealing in trade to trump blood.  This is yet another cultural, moral, and legal aspect of Western life that is foundationally capitalist.  The world might exist within 6 degrees of separation, but there are a least 4 or 5 degrees between me and the guy that wired my house for electricity or the guy that canned the peaches I ate at lunch.  I wouldn't have a way of even finding out about the guy that canned my peaches, or grew them, or shipped them, but there they were on the shelf for about a buck.  I bought them and ate them and never for a moment doubted whether these strangers were worthy of my trust.  Some of them would probably just as soon kill me as feed me, if they ever were able to get to know me.  But they helped feed me today, nonetheless, and they, likewise, didn't think for a moment what sort of idiot or heretic or infidel or greedy speculator might be sustaining himself today with their product.  Again, this isn't a cause or result of capitalism.  This is capitalism.  In fact, it may be true that capitalism denies us one of the most human of needs - the need to develop and compare judgments about each other.  This is certainly a large part of being human and being in community, and it is nearly impossible to engage in this primal activity through commercial transactions.  This is probably the main benefit of pushing more and more commerce into the political realm.  It's difficult to measure, but a lot of people gain immense personal value announcing to each other their opinions about how much teachers or fry cooks should be paid, or passionately insisting on the fine print details of insurance contracts between firms and people who are as distant strangers to them as the peach canner is to me.  Politics clearly serves this need much better than commerce does.  Without politics, if I was buying a suit at a store, and before I left, I approached the manager and said, angrily, "I was going over your firm's health insurance policy the other day, and noticed that it only covers the incision method of vasectomies.  Who the hell do you think you are?!  These workers have a right to non-incision vasectomies, you monster!"  The manager and the workers would be all like, "The hell, dude?  What do you care?  Do you want the suit, or do you not want the suit?"  Whole arenas fill up to hear fiery speeches about the minutiae of your employment contract.  And the crowds get angry - pitchforks in the streets kinds of angry.  You may be someone who prefers to have these matters settled in private.  But, think of the rest of us.  Thank goodness, politics gives us an outlet to express our concern for our fellow man in this cold, uncaring capitalist world.  I mean, sure, if you have a strong personal belief, capitalism might allow you to quietly impose that belief in the way you negotiate your commercial contracts.  But, through politics, if you're in the right faction of the moment, you can impose your beliefs on everyone - loudly, with parades, and speeches.  This is clearly a human demand where capitalism comes up short.)


  1. "Regarding the breakdown of family, keep in mind that another way of saying this is that there was a breakdown in nepotistic thinking and acting."

    Perhaps not surprising then that, as has been noted in a few places recently, that the richest societies (generally Anglospheric and Nordic) have an unusual focus on the nuclear family to the exclusion of broader tribal identity.

    1. Hm. I'm not sure I follow you. I would expect the opposite, in some ways. But, maybe I don't understand your point. Can you elaborate?

  2. Though I am fine with the facts in this post, I am very puzzled about the point. Who exactly wants to go back to the 19th century, or further back to feudalism today? There are the liberals, who want a "kinder, gentler" capitalism, and there are the radicals (say Marx) who want to go further than capitalism, not go back to feudalism.

    I have read very little of Marx, but I have indeed read the Communist Manifesto. In it, he gives a wide-ranging account of the successes of capitalism, which among other things "rescued a considerable part of the population from the idiocy of rural life". Marx's aim was to transcend capitalism, not to go back to some older system.

    Piketty is probably somewhere in between the two points, and I don't see anything which suggests that he is nostalgic for some glorious past, or he sees inequality as originating with capitalism.

    1. Thanks for your input. Those are great points worth thinking about.

      The post started simply as a reaction to the Picketty quotation at the beginning, which seems fundamentally mistaken to me. Part of addressing that statement is to ask, "Compared to what?" Part of the problem I have is that the quoted passage might be technically true, but would be more true with practically any other word besides "capitalism". In fact, it would be more true if "capitalism" and "democracy" were switched around. So, I began writing this as a reaction to that rhetorical mischief.

  3. Call it, most accurately, the "lack of socialism" which is causing the problems of inequality.

    Then the solution becomes obvious, of course. :-) And has already been implemented by the Nordic countries, with their "capitalism plus socialism" economies.