Beneath the Surface

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Jonathan Haskel and Stian Westlake. Restarting the Future: How to Fix the Intangible Economy. Princeton University Press, 2022.

British economists Jonathan Haskel and Stian Westlake have an explanation for why the most advanced economies in the world have been underperforming in recent decades. They cite five symptoms of underperformance:

• Stagnation: Compared to growth in the second half of the twentieth century, twenty-first-century growth has been significantly slower.
• Inequality: Within economically advanced countries, disparities in wealth, income and social status have been increasing.
• Dysfunctional competition: While the largest and most profitable businesses prosper, fewer new businesses are starting up and entrepreneurship is in decline.
• Fragility: Economies are more vulnerable to severe disruptions, such as financial shocks, energy shortages or pandemics.
• Inauthenticity: Economies generate too much “fakery, too much work that does not produce useful, tangible results.”

The authors associate these symptoms with the transition to what they call the “intangible economy.” The problem is basically that the economy is still struggling to make this transition, and that the social institutions required for the new economy are not yet fully developed. Here is what I found to be the best statement of their thesis:

We believe that the economy is partway through a fundamental change from one that is largely material to one that is based on ideas, knowledge, and relationships. Unfortunately, the institutions on which the economy depends have for the most part failed to keep pace. The problems we see are the morbid symptoms of an economy caught between an irrecoverable past and a future that we cannot attain.

The intangible economy

The underlying assumption of the entire analysis is that the capital on which capitalism runs is not what it used to be.

Once upon a time, firms invested mostly in physical capital: machines, buildings, vehicles, computers. Today, as society gets richer, most business investment goes to things you can’t touch: research and development, branding, organisational development, and software.

Because the term “intangible” is deliberately broad, the intangible economy is not quite the same as the “knowledge economy” or the “postindustrial (service) economy.” For one thing, investments in human capital like educated and healthy workers are important in both manufacturing and service industries. An intangible economy is one where most people have satisfied their basic material needs, and now “demand a wider variety of goods and services, often with the kind of expressive or emotional value that intangibles can provide.”

The authors identify four main characteristics that distinguish intangible assets from tangible assets:

• They are highly scalable: A successful software design is easier to reproduce on a grand scale than a physical piece of equipment.
• They have spillovers: It’s harder for a company to keep an idea to itself than to maintain sole ownership of a machine.
• They are sunk costs: Machinery may have some value even when a company fails, but an intangible asset like a talented workforce may just scatter.
• They have synergies: The value of an idea depends on how it is combined with other ideas.

These characteristics of intangible capital pose new challenges for the economy. For example, they make it trickier for companies to decide to invest or banks to decide to lend. The benefits are harder to calculate because they depend more on uncertain synergies, and the risks are greater because of possible losses from spillovers and sunk costs.

Economic crisis

The authors’ analysis of the contemporary economic crisis is mainly a matter of connecting the dots between the distinctive challenges of the intangible economy and the symptoms of underperformance already cited.

Economies may stagnate because investment in intangible capital fails to keep pace with the growing need. Who will invest in tomorrow’s creative workers? Talented children may lack the resources to develop their own talent, but investors may be reluctant to invest in elusive benefits that could be lost to spillovers and sunk costs.

In many industries, healthy competition gives way to dysfunctional competition. Firms with useful intangible assets can scale them up to the point that they dominate an industry—think Amazon or Google. Newer firms with new ideas have trouble getting off the ground.

Inequality worsens partly because of the gap between leading and lagging firms. In addition, the increased importance of synergies encourages leading firms to cluster together geographically, creating large disparities between flourishing cities and economically depressed areas. This is reflected in income and wealth gaps among households, especially because property values are so much higher in thriving cities. Intangible assets also create more disparities in social status, since people with more education and cutting-edge ideas are valued over less educated and more traditional segments of the population.

Economies are more fragile because inadequate investment in intangible capital limits their response to economic threats like pandemics, supply shocks or pandemics. For example:

The path out of the pandemic…required massive intangible investment: software and processes to track, trace, and quarantine people with the disease; research to develop effective drugs, treatment protocols, and vaccines; and networks, systems, and campaigns to ensure that people got vaccinated.

The authors suggest that the inauthenticity they observe in the economy is related to a proliferation of ideas. Because ideas have the potential to be reproduced on a large scale and “the right combination can release big synergies,” the rush is on to promote all kinds of business schemes, from the brilliant to the wacky. Already in the 1990s, fortunes were being made or lost by “dot.com” companies that might or might not have a viable product. We have also seen massive frauds by crooks like Bernie Madoff (phony investments) and Elizabeth Holmes (phony blood tests). And of course, the internet “seems to be plagued by charlatans, misleaders, and hucksters.”

All these problems suggest that we do not yet have the institutional constraints to make the intangible economy work for the general good.

Institutional change

The authors rely on Douglass North, a leader in the New Institutional Economics, for his conception of institutions. He defines them as “the humanly devised constraints that shape human interaction.” Economic institutions in particular exist “to create order and reduce uncertainty in exchange.”

Consider the contract that my partner and I signed when we agreed to buy a home that was about to be constructed. The home’s value depended on the institutionalized property rights that came with it. As long as we fulfilled our side of the contract, no one could take it away from us. We also had an institutionalized means of enforcing the contract. (Here I confess to some dissatisfaction, since the builder required us to submit any disputes to arbitration and waive our legal right to a day in court, a troubling trend in sales contracts.) The contract’s value was also backed by “mechanisms for collective decision-making,” such as zoning restrictions to keep my neighbors from opening a gas station on their front lawn, or municipal agencies to insure the cleanliness of the water supply. Beyond the legal institutions, character-building institutions like families, churches and schools are supposed to generate enough “trust, reputation, and reciprocity” to assure us that the developer is not a fraud.

The authors say that the importance of institutions to economic growth is now “uncontroversial” in economics. This has not always been the case, however. Economists have a long history of attributing the workings of the economy to natural laws that require no conscious human intervention. Early institutionalists like Thorstein Veblen were very controversial critics of this mainstream view. Even today, many economists seem to take institutional constraints for granted and devote little attention to them. As a sociologist, I welcome the authors’ more explicit focus on institutional change.

Institutions are essential, but they can also be poorly adapted to the needs of a changing society. In particular, new technologies may not achieve their potential for economic benefits without some new rules.

The specificity of institutions means that the institutions that helped promote equitable and sustained growth in yesterday’s technological landscape may not work as well today. Their inertia means that these outmoded institutions often persist after they have ceased to be useful. Their unpredictability means that well-intentioned efforts to shape institutions to deal with new technologies may miss the mark, especially in the early days of those new technologies. And the politics of institutions are such that small groups with vested interests often prove very effective at defending institutions that are, on balance, socially harmful.

The intangible economy makes new demands on institutions, highlighting the need for institutional change. For example, the benefits of intangible investments are harder to privatize because of spillover effects. A new idea very easily spreads to people who had nothing to do with thinking it up. The existing patent and copyright laws may need revision in order to achieve the best balance of private incentive and public benefit. The economy may need some expansion of public investment as well as revised protection of private investment.

Having described the general problem of the intangible economy in Part I, Haskel and Westlake then devote Part II to specific areas of institutional reform.

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The last major section of Heather Boushey’s Unbound discusses how inequality distorts the economy. Here the author discusses how the shift of income and wealth toward the top of the distribution has affected macroeconomic processes. The first chapter in this section focuses on the economic cycle—the circular flow from production to income and back again by way of saving and investment in more production. The second chapter concentrates on investment in particular, and how growing inequality has affected the level and nature of investment.

The economic cycle

If a country wants to sustain a high level of economic activity—lots of production and consumption of goods and services—does it matter how income and wealth are distributed?

In the economically depressed 1930s, John Maynard Keynes emphasized how much the economy needs consumers as well as savers and investors. Thrift is a good thing up to a point, but too much thrift undermines the aggregate demand that firms need to justify high levels of production. The distribution of income and wealth has a bearing on this because of the “marginal propensity to consume.” The poor have to spend more of their income, while the rich can afford to save more. Milton Friedman questioned how much the propensity to consume depends on current income. People with variable incomes may smooth out their spending over time, drawing on their past income or borrowing against future income at times when their current income is lower.

Nevertheless, recent research does confirm that the rich do save more, while others have to spend the bulk of their income or even overspend and run up debt. A substantial shift of income and wealth toward the top of the distribution makes it harder for ordinary households to consume without incurring more debt.

Boushey regards the financial crisis of 2007 and the resulting Great Recession as the “perfect case study” for examining that proposition. Alan Krueger’s research found that “between 1979 and 2007, about $1.1 trillion (in 2007 dollars) was annually shifted toward the very rich.” Consumption by the rest of the population held up pretty well, not because incomes were rising for them, but because households took on more debt. Household debt rose from less than 60 percent of GDP before 1979 to 100 percent by 2007. (After the crisis it fell back somewhat, but is still around 80 percent now.)

The federal government responded to the Great Recession with expansionary fiscal and monetary policies that lowered interest rates and stimulated aggregate demand. Economic recovery was very slow, however. Some economists believe that the government was too quick to turn back toward austerity and phase out programs aimed at low-income households.

The lesson from this experience seems to be that the economy can sustain a high level of economic activity for a time despite growing economic inequality. But eventually, the economy is dragged down by either too little consumption or too much debt. Economic inequality is associated with financial instability, as Mark Zaindi concluded:

In a recent essay, Moody’s Analytics’ Zandi—who oversees one of the most well-respected forecasting models—integrated inequality into his model for the United States. Adding inequality to the traditional models did not change the short-term forecasts very much, but he concluded that higher inequality increases the likelihood of instability in the financial system when looking at the long-term picture or considering the potential for the system to spin out of control.

Investment

Since the rich are able to save more than the poor, “the shift in income from the bottom to the top of the income distribution accounts for an increase…in the global savings rate.” As Boushey puts it, “more savings are sloshing around in the economy.” Productive investment of all those savings is another matter, however. If incomes are not growing in the middle and bottom of the distribution, businesses may be reluctant to expand production or launch new products.

One thing that personal savers and businesses can do with their money is lend it, especially when household debt is growing. Finance is one industry that can have a boom even when other areas of investment are weak. The deregulation of finance in the 1980s and 90s facilitated such a boom, but at the risk of more financial instability. Commercial banks were allowed to own banks in multiple states, charge higher interest rates, and engage in investment banking. New financial instruments like credit default swaps got exemptions from traditional forms of regulation. One result was a boom and bust in home mortgages, as complicated loans that borrowers couldn’t understand or really afford were packaged into more complex securities, which were then overrated by rating companies and insured by unregulated credit default swaps. When mortgage defaults began to rise, the financial system collapsed. “The rise in credit supply—made possible both by the additional savings flooding the economy and the deregulation of finance—was the leading cause of the Great Recession.”

In this era of greater inequality, corporate profits have boomed, and a larger portion of the profits have been distributed to shareholders through dividends and stock buybacks. That leaves a smaller portion for companies to reinvest in actual expansions of goods and services. “Economic inequality means lots of savings but too few attractive opportunities for profitable investments, which creates a long-term trajectory of slow growth… The term economists use to describe this combination of trends is secular stagnation.”

This view is in sharp contrast to the politically popular idea that tax cuts for the rich and greater wealth at the top will support more investment and more rapid economic growth. That was the thinking behind the Reagan, Bush and Trump tax cuts, as well as Governor Brownback’s failed experiment in Kansas. To the extent that such tax cuts discourage government spending on human capital development and other economic needs not addressed by private firms, they further weaken the economy.

Between the need for investments in the development and deployment of green energy, the need to mitigate the effects on our food supplies, and the need to assist communities upended by the rising prevalence of climate change-induced natural disasters, there’s a comprehensive agenda to be enacted. At the same time, there’s an unmet need for investments in health care, education, and the diverse needs of the elderly and families caring for young children or disabled family members that would lead to improvements in quality of life and sustain economic growth.

A Paradigm Shift

To some, Heather Boushey’s critique of economic inequality may sound radical, even “socialist”. I do not think of it that way. Nowhere does she recommend abolishing capitalist competition or ending unequal rewards tied to real differences in contribution. On the contrary, what is troubling is the spectacle of large corporations and their executives wielding so much power that they can grab the lion’s share of the rewards whether they deserve them or not. Society has to balance the need to motivate people through higher pay with the need to give everyone access to the means of economic participation. Workers need the human capital to be productive; consumers need the buying power to demand investment in useful goods and services; and citizens need the voting power to make government work for the benefit of the many, not just the few.

If Boushey’s desire for a more egalitarian society were very radical, the changes she would like to see would have little chance of happening, since the United States is not a radical country. As it is, she detects a change in thinking in economics that may portend changes in policy as well. Certainly the Biden administration is more in touch with the new thinking than previous administrations.

In 1962, when Kuhn laid out how scientific revolutions happen, he argued that a paradigm changes when the consensus shifts. This is happening right now in economics. Behind the scenes, in academic conferences and journals across the nation, a new framework is emerging, one that seeks to explain how economic power translates into social and political power and, in turn, affects economic outcomes.

The country may be ready to move on from its forty-year experiment with more extreme inequality and “trickle-down economics” It has not generated the economic growth promised—the rising tide that was supposed to lift all the boats. In many ways, the country may be going back to something reminiscent of an earlier age, a passionate concern for the common good.

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The next part of Heather Boushey’s Unbound discusses how extreme inequality subverts our economy. She emphasizes two aspects of this: first, the subversion of fiscal policymaking, the government’s taxing and spending policies that can support a thriving economy; and second, the subversion of the kind of market structure that can sustain competitiveness and innovation. Each of these two gets a chapter.

Public spending

Here Boushey begins with the effects of tax cuts on public resources and the government’s ability to spend on public goods. Advocates for tax cuts often claim that any lost revenue due to lower tax rates can be offset by growth in the tax base through higher personal saving and investment. In opposition to that view, Boushey cites the example of Kansas under Governor Sam Brownback. He dramatically cut taxes between 2015 and 2017 in his widely publicized “red state” experiment.

Within the first two years of the tax cuts, the state’s funding levels for schools, healthcare, and other public services fell by 8 percent and the state transferred almost $1 billion from its Highway Fund to its General Fund, postponing numerous transportation projects indefinitely.

In 2017, growing public opposition to these policies led the legislature to repeal the tax cuts over Brownback’s veto.

At the federal level, tax cuts have generally favored the wealthy by reducing the top-bracket rates, as well as reducing taxes on investment income. The evidence does not show a correlation between such cuts and rates of economic growth. What it does show is that such cuts increase federal budget deficits.

Not surprisingly, wealthy people more often support the tax cuts from which they benefit the most. This may also reinforce income inequality, since the rich may fight harder for additional compensation if they know it will be lightly taxed. Since top executives often serve on interlocking boards of directors, they are often in a position to support one another’s pay increases. Wealthy donors usually dominate campaign contributions. Boushey cites a New York Times report from the 2016 presidential campaign showing that “just 158 families and the companies they control [accounted for] nearly half of all donations at that point.” Both parties have to be responsive to the policy priorities of wealthy donors to some degree, but the Republican Party does so “overwhelmingly”.

In contrast to the old argument that less government means a stronger economy, Boushey emphasizes the legitimate role of government in public investment—investing in things that are good for the economy but that private firms don’t find profitable to pay for. Among these are the human capital investments discussed in the first part of the book, such as education and affordable health care. By depriving government of revenue, tax cuts for the rich may discourage human capital investments and undermine the productivity of our workers compared to those in other countries. Other economically important public goods are infrastructure improvements and new technologies whose profit-making potential is not yet clear to private firms. For example:

Leslie Berlin, in Troublemakers: Silicon Valley’s Coming of Age, points to Global Positioning System technologies and touchscreen capabilities as immensely valuable discoveries that required such large investments of resources, and offered so little certainty that the research would lead to anything commercially important, that no private sector business pursued them.

Public opinion on fiscal policy is shifting, with less support for tax cuts and more support for public initiatives like Obamacare. Only about one-third of the country supported Donald Trump’s 2017 tax cuts. The biggest complaint people now make about taxes is not that they are too high, but that rich people and corporations don’t pay their fair share. Opportunities to avoid taxes are much greater for rich people with complicated financial profiles than for ordinary working people whose incomes are reported on their W-2s. “Tax noncompliance costs the US government more than $400 billion annually—more than twice what we would need at the federal level to cover the costs of both a paid family and medical leave insurance program and a universal childcare program.”

Since Boushey wrote that, the IRS estimate of lost revenue has risen to $600 billion a year, and Biden’s Inflation Reduction Act has allocated $60 billion for increased enforcement. Such enforcement efforts bring in much more revenue than they spend. Nevertheless, many Congressional Republicans are insisting on cutting that enforcement spending as a condition for raising the debt ceiling. That would force the country to choose between two forms of financial irresponsibility: either cut tax enforcement and lose revenue to tax cheats , or refuse to pay the bills that Congressionally authorized spending has already incurred. (Either would increase the national debt, the first by losing revenue, and the second by damaging our credit and increasing interest payments.)

Market Structure

Here Boushey’s main concern is that concentration of economic power in a small number of corporations within industries makes the economy less competitive, less innovative, and less fair to workers and consumers.

Many traditional economic models have assumed a state of perfect competition, in which no one firm has power over prices or wages. Economists have acknowledged exceptions—“situations where one monopoly firm—or an oligopoly of a few firms—has enough market power to set prices, limit competition, or dictate conditions for suppliers.” But they haven’t been considered common enough to contradict the general theory. Boushey believes that market concentration has become too large to ignore. She discusses several industries now dominated by a small number of firms, including health care, pharmaceuticals and telecommunications.

Economists have put forth conflicting hypotheses about the relationship between economic concentration and innovation. Some have said that oligopolistic firms do not have to innovate as much, since they face less competition. Others expect them to innovate more, since they can afford to make longer-term investments that may only pay off at a later time. The evidence is mixed, but the findings from recent studies point more toward the first hypothesis. In the recent era of increasing concentration, new investment has lagged relative to the financial valuations of companies, the number of new startups has declined, and productivity growth has slowed.

Market concentration reinforces other forms of inequality. Dominant firms have more power to mark up prices above costs to increase their profits. They can then spend those profits on higher executive pay and greater rewards for shareholders. But since reduced competition also gives them more power over workers, they can “pay non-executive employees lower wages and provide worse working conditions without losing staff.” This period of increasing concentration is also noted for generally higher profits and a decline in labor’s share of national income.

Dominant corporations have the means to influence legislation through expensive lobbying campaigns. Often they obtain favorable tax breaks or block inconvenient regulations. “Since 2010, the number of mergers filed has increased by more than 50 percent, but appropriations to the agencies that enforce the antitrust laws have been flat in nominal terms.” However, in 2021 President Biden ordered government agencies to step up antitrust enforcement, so times may be changing there too.

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Heather Boushey’s detailed discussion of how inequality constricts our economy begins with how it obstructs the development and utilization of human capital.

Learning and human capital

Economists use the term “human capital” to refer to the investments we make in people rather than machinery and other material means of production. In particular, it refers to the education and training of our labor force. Gary Becker pioneered the use of the term in his book of that name in the 1960s.

The importance of human capital raises the question of how opportunities to acquire relevant knowledge and skills are distributed in the population. When Americans think of the United States as a “land of opportunity,” they usually assume that inequality in rewards is a good thing, as long as everybody gets an equal chance to compete for them. I think that’s a big part of the appeal of competitive sports, where many can play but some win more than others.

In the case of economic competition, however, the winners take their rewards home and share them with their families. Parents want to give their children the best chances in life they can, and high-income parents are in a much better position to do so. As a result, great inequalities of results translate into inequalities of opportunity as well. Boushey reports on the substantial body of research connecting economic inequality with differences in early life experiences and later life achievement.

According to David J. Barker’s “fetal origins hypothesis” and related research by others, the inequalities are already present in the womb. Prenatal experiences like poor nutrition affect birth weight, future health, and educational achievement. After they are born, children differ greatly in access to quality child care and early childhood education. Although almost every American child gets some sort of schooling, low-income families have less access to well-funded schools and higher education. We do not know how much talent is underdeveloped and wasted in the process, but since the United States is one of the most economically unequal countries in the world, it must be substantial.

Economic inequality also affects children in more subtle ways. “The psychology literature shows that economic hardship is associated with parental emotional distress and conflict, as well as harsh parenting and behavioral problems for children.”

Society cannot control every factor that connects parental success or failure with children’s opportunity. Genetic differences may well play some role. But many public programs do show positive effects on children’s achievements, such as Supplemental Nutrition Assistance, the Earned Income Tax Credit, early childhood education, and school finance reforms to better fund schools in poor neighborhoods. Much more can be done, since the United States lags behind most wealthy countries in many policy areas, especially quality child care and early childhood education.

Skills, talent, and innovation

The development of human capital is a long process, and early child development is only the beginning. Even if a family raises a talented child, social and economic inequalities often obstruct that individual’s ability to contribute to a thriving economy.

The book features the work of Raj Chetty, who studied how the relationship between aptitude and achievement was complicated by inequalities in income, gender and race. Chetty was especially interested in achievements in innovation, which he studied by comparing the number of patents held by different groups. He used children’s test scores as indicators of aptitudes. As expected, high-aptitude groups went on to hold more patents. Within the high-aptitude groups, however, far more patents were held by subjects who were white, male, or came from higher-income families.

Based on their findings, Chetty and his colleagues decry the number of “lost Einsteins” in the United States—the smart kids who aren’t lucky enough to have been born into rich families and never get to make the most of their talent, skills, and hard work. They say the economic effects are shockingly high: “If women, minorities, and children from lower-income families were to invent at the same rate as white men from high-income (top-quintile) families, the total number of inventors in the economy would quadruple.”

Boushey discusses the “obstacles to entrepreneurship” that keep disadvantaged groups from contributing more to economic innovation. These groups do not have as much access to the contacts and financing they need to launch their enterprises. For example, surveys by the US Census Bureau found that “minority-owned businesses pay higher interest rates on loans, are more likely to be denied credit, and are less likely to apply for loans due to concerns that their applications will be denied.” Such differences remain even when comparing people with similar credentials.

Discrimination in the workplace is also a factor. When researchers sent fictitious resumes to employers advertising for talent, “a white-sounding name provided an advantage equivalent to eight additional years of experience.” Companies that move away from discrimination and toward gender and racial diversity may find the effort worthwhile. Some research has found that such diversity is positively correlated with financial returns. Boushey concludes, “Innovation thrives on diversity.” I think that could be both because diverse companies tap into a wider pool of talent, and because the interplay of ideas among people of different backgrounds stimulates creativity.

These findings call into question the old idea mentioned in the previous post, that deliberate increases in equality can only be achieved at the cost of reduced efficiency and lower aggregate income. That makes sense only if one assumes a state of perfectly free and fair competition, where the best talent automatically rises to the top and the economy already runs at peak efficiency. From that perspective, why would you refuse to hire and promote a talented black woman, knowing she might go to work for your competitor instead? The short answer is that your competitor is probably just as prejudiced and won’t hire her either! Orthodox economics embodies a rather rosy view of free markets, usually presented as the objective, scientific, value-free way of looking at things. The orthodox view is useful as a simplified and idealized model to serve as a point of departure, but it is not an adequate description of the real world, with all of its conflicts and power structures. If taken too seriously, it is a formula for economic complacency. It fails to provide the bold, imaginative vision we need to meet the economic challenges of the 21st-century global economy.

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Heather Boushey. Unbound: How Inequality Constricts Our Economy and What We Can Do about It. Cambridge: Harvard University Press, 2019.

Heather Boushey is a co-founder of the Washington Center for Equitable Growth, and she is currently a member of the Council of Economic Advisers to President Biden. Her book represents a recent shift of economic thinking on the subject of economic inequality.

Traditional thinking and its limitations

Traditionally, mainstream economists have taken a rather benign view of inequality, seeing it as a harmless, normal, or even essential aspect of a free-market economy. American economist William Bates Clark laid a foundation for this thinking in the late 1800s with his “marginal productivity theory of distribution.” Leon Walras had already argued that each factor of production—land, capital or labor—generated income that equaled the value of its contribution to production. Alfred Marshall had agreed, saying that his theory supported the old saying that “most men earn just about what they are worth.” Clark developed a mathematical model to show that under the assumption of perfect competition, firms will add labor until the contribution of each worker to production just equals the wage paid. Then he generalized:

It is the purpose of this work to show that the distribution of the income of society is controlled by a natural law, and that this law, if it worked without friction, would give to every agent of production the amount of wealth which that agent creates.

[W]hat a social class gets is, under natural law, what it contributes to the general output of industry.

In other words, when some people get more than others, that’s as it should be, since what they get is just a reflection of what they give. Twentieth-century economists incorporated this thinking into a general model of economic equilibrium in which the market efficiently allocates all resources and maximizes social utility. “A perfectly competitive market would arrive at a point where no further improvement could be made to any person’s outcome without leaving some other person worse off.” Many economists argued that deliberate increases in equality could only be achieved at the cost of reduced efficiency and lower aggregate income. In the natural market economy, economic contributors do not receive equal returns, but they do get their fair share of the aggregate income. Economic growth increases the benefits for all, as “a rising tide lifts all the boats.”

Economists have recognized exceptions to perfect competition like the power of large corporations over wages and prices. But they may not take these “imperfections” seriously enough to rethink the assumptions of their theories.

Boushey is one of an increasing number of economists who do question the underlying assumptions of mainstream economics as well as its benign view of inequality. “We need to recognize how economic power translates into political and social power, and reject old theories that treat the economy as a system governed by natural laws separate from society’s.” I think most sociologists would agree, since the very term “natural law” is problematic for us. Scientists may misuse the term by assuming that the institutions of a particular social system, such as industrial capitalism, are written in stone and impervious to major social change.

Such criticisms of mainstream economics are not new, although they were often overlooked after the ascendancy of “neoliberalism” and Reaganomics in the late twentieth century. Boushey cites the earlier critique of free-market economics by Karl Polanyi, who viewed economic processes and social power relations as inseparable. One could also mention Thorstein Veblen and other “institutional” economists of the Progressive Era.

Inequality in the spotlight

Economic theory has never developed in isolation from historical events, but has always been affected by trends in the economy itself. One only has to think of how the Great Depression advanced Keynesian thinking, or how the runaway inflation of the 1970s advanced Milton Friedman’s monetarism. After about 1980, the economy entered a period of generally slower growth and greater inequality, compared to the period of postwar prosperity. What growth there was generated gains mainly for the wealthy, while the middle class and the poor fell farther behind. Bousher cites research by Emmanuel Saez and Gabriel Zucman finding that the share of the wealth owned by the top 1% has increased to 42%, compared to only 23% in 1978. I should mention that specific numbers like these are somewhat contested, since they depend on how wealth is defined and measured. The general trend toward greater inequality in both income and wealth, however, does show up in many studies.

This experience poses a challenge to traditional thinking, which expects everyone to receive economic rewards commensurate with their contribution to production. Where is the larger contribution that would justify the spectacular rewards for the most powerful owners and managers, if they are having so little success in growing the economy for the good of all? “By the early 2000s, rising income inequality—especially at the very top—had become so striking that attempts to cast it as consistent with natural laws of the economy that would eventually benefit society more generally rang hollow.”

Mainstream economists have tried to interpret the growing inequality without straying too far from traditional thinking. They have said that new technologies and skill requirements have widened the income gap between skilled and less-skilled workers, and that globalization has aggravated the situation by putting less-skilled workers in competition with those of other countries. But since these are global developments, they do not explain why the emerging inequality is especially severe in the United States.

The new inequality cries out for a deeper theoretical explanation, one that incorporates power, politics and social conflict. We must confront the possibility that some features of our economic order are designed to benefit the few at the expense of the many. We must stop assuming that the economy already works like a well-oiled machine, but consider the argument that it could work better if benefits and opportunities were more widely distributed.

How inequality constricts

The general theme of Boushey’s book is announced in the subtitle: “How Inequality Constricts Our Economy and What We Can Do about It.” The author uses three particular verbs to describe the effects, claiming that “inequality obstructs, subverts and distorts economic growth.” The differences among these concepts may be a little subtle, but they do provide an outline for organizing the book. The obstruction part includes chapters on “Learning and Human Capital” and “Skills, Talent, and Innovation.” The subversion part includes chapters on “Public Spending” and “Market Structure.” The distortion part includes chapters on “The Economic Cycle” and “Investment.” I will devote one post to each of these three parts.

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