The Zero Marginal Cost Society

September 8, 2014

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Jeremy Rifkin. 2014. The Zero Marginal Cost Society: The Internet of Things, the Collaborative Commons, and the Eclipse of Capitalism. New York: St. Martin’s Press.

Jeremy Rifkin is the president of the Foundation on Economic Trends and a leading thinker on the transition to a more sustainable global economy based on new energy sources and infrastructure. In this latest of his many books, he predicts that capitalism will gradually decline and be largely supplanted by what he calls the “collaborative commons,” a system based on common access to cooperatively managed and shared resources. This sounds pretty utopian, but he bases his argument on some very real changes that are already occurring in how we produce and share information, obtain energy, and make things.

Rifkin’s version of the decline of capitalism is not based on its supposed failure, but on its success. The relentless quest for profit leads producers to raise productivity in order to lower unit costs and attract more buyers. Their competitors are forced to do the same. If the process is carried to its logical conclusion, productivity moves toward “the optimum point in which each additional unit introduced for sale approaches ‘near zero’ marginal cost…making the product nearly free.”

The information economy has already taken much of the profit out of some industries by making it so easy to obtain certain commodities; music and news are prime examples. Rifkin believes this is only the beginning:

The near zero marginal cost phenomenon has already wreaked havoc on the publishing, communications, and entertainment industries as more and more information is being made available nearly free to billions of people. Today, more than one-third of the human race is producing its own information on relatively cheap cellphones and computers and sharing it via video, audio, and text at near zero marginal cost in a collaborative networked world. And now the zero marginal cost revolution is beginning to affect other commercial sectors, including renewable energy, 3D printing in manufacturing, and online higher education. There are already millions of “prosumers”— consumers who have become their own producers.

In Part I, Rifkin reviews the history of capitalism, emphasizing the connections among energy sources, communication and transportation at each phase. The First Industrial Revolution depended on steam, printing and railroads; the Second Industrial Revolution relied on oil, the internal combustion engine and the telephone. In both cases, the trend was toward concentrations of economic power. “Vertically integrated corporate enterprises were the most efficient means of organizing the production and distribution of mass produced goods and services.” For a time, the only alternative to capitalism seemed to be another form of centralized power–state socialism.

Rifkin expects the Third Industrial Revolution, with its reliance on renewable energy and global electronic communications, to reverse the centralizing trend and distribute power more widely:

A new communication/energy matrix is emerging, and with it a new “smart” public infrastructure. The Internet of Things (IoT) will connect everyone and everything in a new economic paradigm that is far more complex than the First and Second Industrial Revolutions, but one whose architecture is distributed rather than centralized. Even more important, the new economy will optimize the general welfare by way of laterally integrated networks on the Collaborative Commons, rather than vertically integrated businesses in the capitalist market.

To put it simply, people will rely less on big corporations to meet their needs and more on one another.

A new infrastructure

When economists have thought about improvements in productivity, they have usually thought in terms of better machinery or better trained workers. However, economist Robert Solow found that changes in energy sources and infrastructure accounted for the greatest leaps in productivity. The Second Industrial Revolution was possible because of the electric grid, telecommunications network, interstate highway system, oil and gas pipelines, and water systems (all of which required government initiatives, by the way). Rifkin believes that the world is on the verge of a similar revolution that will take human productivity to a dramatically higher level.

First, he sees the creation of “a renewable-energy regime, loaded by buildings, partially stored in the form of hydrogen, distributed via a green electricity Internet, and connected to plug-in, zero-emission transport.” The cost of solar energy is now dropping exponentially, just as the cost of computing already has. All of the energy annually used in the global economy could be supplied by much less than one-tenth of one percent of the energy that reaches Earth from the sun. Rifkin expects 80 percent of our energy to be from renewable sources by 2040.

Another key development is the “Internet of Things,” which will connect “every machine, business, residence, and vehicle in an intelligent network,” enabling all of them to work smarter. Rifkin doesn’t provide detailed examples, but he cites studies that estimate the potential productivity gains:

Cisco systems forecasts that by 2022, the Internet of Everything will generate $ 14.4 trillion in cost savings and revenue.  A General Electric study published in November 2012 concludes that the efficiency gains and productivity advances made possible by a smart industrial Internet could resound across virtually every economic sector by 2025, impacting “approximately one half of the global economy.” It’s when we look at each industry, however, that we begin to understand the productive potential of establishing the first intelligent infrastructure in history. For example, in just the aviation industry alone, a mere 1 percent improvement in fuel efficiency, brought about by using Big Data analytics to more successfully route traffic, monitor equipment, and make repairs, would generate savings of $ 30 billion over 15 years.

Up until now, industrial manufacturing has required a lot of capital and large, vertically integrated organizations to produce goods economically. The development of 3D printing is changing that, making possible a transition “from mass production to production by the masses”:

Software— often open source— directs molten plastic, molten metal, or other feedstocks inside a printer, to build up a physical product layer by layer, creating a fully formed object , even with moveable parts, which then pops out of the printer. Like the replicator in the Star Trek television series, the printer can be programmed to produce an infinite variety of products. Printers are already producing products from jewelry and airplane parts to human prostheses. And cheap printers are being purchased by hobbyists interested in printing out their own parts and products. The consumer is beginning to give way to the prosumer as increasing numbers of people become both the producer and consumer of their own products.

The main thing one needs to be such a “prosumer” is access to the information that the printer needs to create an object, and that information is likely to be widely available in the information age. Rifkin also anticipates the expansion of low-cost education, as more learning occurs through “MOOCs”–massive open online courses.

The future of work

Rifkin acknowledges the potential of higher productivity to destroy millions of jobs by reducing the need for human labor. Jobs are disappearing because of a major structural change in the economy, not just because of a temporary recession or relocation of factories from one country to another. Although in the past, technological changes have created as many jobs as they destroyed–for example, creating factory jobs to replace farm jobs or white-collar jobs to replace blue-collar jobs–Rifkin does not see that substitution process continuing. The new information technologies are threatening white-collar and service jobs as much as manufacturing jobs.

The last book I discussed, Jaron Lanier’s Who Owns the Future?, argued that humans have to defend themselves against the smart machines by fully monetizing their own information contributions, that is, by charging for every idea, data, photo, etc., they share. Otherwise, a few owners and users of Big Data will get rich while the rest of us get poor. Rifkin’s solution is almost the opposite. He doubts that the capitalist, profit-centered model will work very well for anyone, and that all of us will end up exchanging information and things at little or no cost. Eventually, more of our time will be devoted to pursuing non-material ends, since obtaining the material necessities of life will have become so easy in a zero marginal cost world. While Lanier advocates a more thorough commodification of information, Rifkin expects less commodification and more sharing.

This will not happen overnight, and Rifkin makes an explicit distinction between time frames. “In the short and mid terms…the massive build-out of the IoT [Internet of Things] infrastructure in every locality and region of the world is going to give rise to one last surge of mass wage and salaried labor that will run 40 years.” A big part of this will be the transition to renewable energy sources and the conversion of existing buildings to use them. But in the latter half of this century, he expects most human labor to shift to nonprofit activities of one kind or another.

Continued

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Who Owns the Future? (part 2)

August 21, 2014

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First of all, an apology to my followers, whose summer was no doubt ruined by my failure to post for two months. I have been suffering from a medical condition that prevented me from working at my desk, but I am much better and cautiously resuming my regular routine.

When I was so rudely interrupted, I was discussing Jaron Lanier’s book, Who Owns the Future? You may recall that Lanier is worried about how the new information society is shaping up. He takes the humanistic view that information comes ultimately from people, but he complains that too few people are being compensated for the information they provide. Instead a relatively small number of corporations are getting rich by scooping up vast amounts of data and finding ways to profit from it. Online music services make money while fewer individual musicians can make a living. If present trends continue, Lanier foresees massive losses of middle class jobs and an even greater divide between rich and poor. The “winner-take-all” economy is also a threat to democracy, since the distribution of political clout will parallel the distribution of money.

Lanier’s hope for the future is based on his conviction that human beings remain the basic source of economic value. He rejects the alternative view of inevitable human obsolescence, which he describes this way: “We ordinary humans are supposedly staying the same…while our technology is an autonomous, self-transforming supercreature, and its self-improvement is accelerating. That means it will one day pass us in a great whoosh. In the blink of an eye we will become obsolete.” This view is well represented in the darker forms of science fiction, where “people have been rendered absurd by technological advancement.” Lanier prefers the sunnier kind–think Star Trek–where “a recognizable human remains at the center of the adventure.” He regards books like Martin Ford’s The Lights in the Tunnel as the economic equivalent of dark science fiction. “He sees jobs going away, and proposes that people in the future be paid only for consuming wisely, since they eventually won’t be needed for producing anything.” One possible economic future is a vast welfare state, where the few who make most of the money have to subsidize the spending of the many in order to keep the economy going. The political economy might vacillate between winner-take-all capitalism and socialism for many years before arriving at the rational solution, finding a way to compensate ordinary people for the information contributions that only human beings can make.

If ordinary people would really be earning enough to do okay–and with the dignity of having earned if–if only we instituted complete enough accounting, why not do that instead of bouncing between moguls and socialists? Why pay a stipend to people who would actually be earning it if we were honest? The only reason is that you have to undervalue people if you want to support the fantasy that artificial intelligence is a free-standing technology. We are sacrificing ordinary people at the pyramidion of our temple.

Lanier’s solution involves using the technical capabilities of the information age to institute a more honest accounting for valuable information flows. New technologies make it easy to move information around, often divorcing it from its original context. As most teachers have discovered by now, plagiarism is a snap on the internet. However, it is also technically feasible for all information to contain a link to its original source, and that creates the potential for the originator to charge a fee for its use. The originator could set a very high price to minimize distribution–for example, to discourage one’s personal photos from being used for profit–but usually free competition would keep prices reasonable. Lanier envisions a gradual transition to a monetized internet in which more and more people are compensated for their creative participation. As people aged, they could rely more on royalties from past contributions as a source of income.

Initially, one would expect Big Data companies to resist having to pay for more of the information they currently scoop up for free. Lanier expects them to change their tune as the current economic model becomes increasingly unsustainable, and too many people are economically marginal to the information economy to sustain economic consumption. Lanier also expects a new generation of information users to make the transition:

The window to remake the digital world might only open as the baby boomers, and even me and my dizzy compatriots of “Generation X,” die off. Politics and economics might be reborn around the middle of this century once we, and probably also the “Facebook generation,” get out of the way.

I’m not convinced. So far, the young “Millennial” generation seems especially interested in sharing and collaboration without immediate economic gain. I’m not at all sure that a fully monetized information system is going to appeal to them or to future generations. Setting a price on every exchange of information (a penny for my thoughts?–no, I want $22.95) seems to be taking capitalism to a rather extreme conclusion. I have also been reading Jeremy Rifkin’s The Zero Marginal Cost Society, which imagines a very different future. I’ll be discussing it soon.

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Who Owns the Future?

June 12, 2014

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Jaron Lanier. 2013. Who Owns the Future? New York: Simon & Schuster.

Jaron Lanier is a heavyweight in computer science, who among other things had a lot to do with the creation and development of virtual reality. He is also an artist and musician, and a humanistic thinker who has thought deeply about the future of the information economy. I always find it hopeful when someone with impeccable technical credentials can avoid reducing everything to computation and elevating technology over people. Lanier is clearly fighting for human value in general, and human economic value in particular. The purpose of his book is to warn us that human value is being systematically undermined in the emerging information economy, and to consider what might be done about it.

I found Lanier’s writing brilliant but a little exasperating. He writes something like he thinks, no doubt, in short bursts of creativity that come at the problem from many different directions. He has thirty-two short chapters and eight “interludes,” many of which left me intrigued but wishing for more thorough explanation. To try and lay out his argument logically, I will have to pull it together from here and there rather than covering the book from start to finish. Still, you have to love a guy who can write, “Drawing the line between what we forfeit to calculation and what we reserve for the heroics of free will is the story of our time,” and, “The spiritual challenge will remain of not losing touch with that core of experience, that little something that doesn’t fit into the aspects of reality that can be digitized,” just to quote two of his insights.

The information revolution promises to be a great leap forward in human productivity. Why is it that the economic benefits are not more obvious then, at least to the majority of people in the most developed countries? Why are a relatively small number of people making so much money while the middle class is slowly shrinking? Lanier thinks that something has gone wrong:

PCs enabled millions of people to run their own affairs. The PC strengthened the middle class. Tablets are instead optimized for delivering entertainment, but the real problem is that you can’t use them without ceding information superiority to someone else.

The information economy has taken a turn for the worse as people have come to rely on a relatively small number of companies that owe their success to the collection of vast amounts of information. Lanier believes that we have made a bad bargain with these companies, giving them too much information and not getting enough in return. We are operating partly on the idea that information should be freely shared, and partly on the idea that information is economic power. The result is often that information freely shared by the many is gathered and used for profit by the few. He believes that an information economy run that way is ultimately unsustainable, since it will eventually destroy more income-generating activity than it creates.

Siren Servers

Lanier uses the term “Siren Server” to refer to “an elite computer, or coordinated collection of computers, on a network…Siren Servers gather data from the network, often without having to pay for it. The data is analyzed using the most powerful available computers, run by the very best available technical people. The results of the analysis are kept secret, but are used to manipulate the rest of the world to advantage.” The name, of course, is a reference to the mythological sirens who lured men to their death.

The information advantage can take many forms. More information helps an insurance company reduce risk by insuring only the healthy. More information helps Amazon automatically monitor book sales to make sure it is never undersold. More information helps Walmart calculate the lowest price it can get away with charging a supplier. More information helps an advertiser present just the right ad in the right place to induce you to click on it. Much of this may seem benign and even economically efficient. Customers get low prices and the free search engines to find them. But lower risk for those with the most information translates into higher risk for someone else, such as Walmart’s or Amazon’s suppliers. Instead of rewarding companies for taking risks, the information economy enables companies to earn the greatest rewards by using information to export risk to others.

Siren Servers lure customers with “rewarding network effects,” virtuous feedback cycles that make a company’s network more valuable as more people use it. The more people read Amazon books on their Kindle, the more publishers will put out Kindle editions. The more people using a matchmaking service, the better the chances of meeting someone you like, whether the matching algorithms actually work very well or not. But the most successful Siren Servers also hold onto their customers with punishing network effects that make it hard to leave, such as lost access to data. You don’t really own a copy of the Kindle book you “bought,” just the right to access it through a particular company.

Who will make a living?

The biggest threat from the information economy is that fewer people will be able to make a middle-class living. Lanier is by no means a Luddite who sees only the destructive impact of new technologies on work. He acknowledges that “up until about the turn of this century we didn’t need to worry about technological advancement devaluing people, because new technologies always created new kinds of jobs even as old ones were destroyed.” He is essentially an economic optimist who believes in economic growth through the creation of new wants and new value: “To lose trust in the basic inception of wealth is to lose trust in the idea of human improvement. If all the value that can be already is, then market dynamics can only be about churn, conflict, and accumulation. Static or contracting economies make people cruel and shortsighted.”

However, as the information economy has played out so far, the combination of free-flowing information and profitable consolidation of information by Siren Servers is threatening many middle-class jobs. A multitude of news,  books and music are available online, but newspapers are going bankrupt, bookstores are closing, and fewer people can make a living as journalists or musicians. And that’s only the beginning. Lanier sees online instruction as a real threat to the jobs of university professors. Publishing books online will become ever easier, but getting paid for it will be harder. Even health care workers could lose jobs to caregiving robots. “Eventually most productivity probably will become software-mediated.”

In Lanier’s view, the problem is not that humans have less to contribute, but that the human contribution is not being properly accounted for and compensated. “The most crucial quality of our response to very high- functioning machines, artificial intelligences and the like, is how we conceive of the things that the machines can’t do, and whether those tasks are considered real jobs for people or not.”

What people do

Lanier insists that smart technology depends ultimately on people. He says that “algorithms are only a repackaging of human effort.” The decisions of a caregiving robot will have to be based on the inputs of many humans making decisions in real situations. “The supposedly artificially intelligent result can be understood as a mash-up of what real people did before.” As smarter technologies increase our ability to implement our ideas, the ideas themselves will become more important than ever. Getting people to submit to surveillance and give up information for free will become more and more a matter of stealing human labor, a new form of economic exploitation.

The real problem is not human obsolescence, but a misguided philosophy that undervalues the human contribution. Or to be more precise, the contributions of most ordinary people. The same technological entrepreneurs who envision obsolescence for the masses regard themselves as Nietzschean heroes making their mark on the universe by using information collected from others. At times, Lanier refers to this as a new religion, a faith in technology and its wizards.

To put the argument very concisely, the information economy requires a more consistent association between information and economic value. Everyone must be able to receive compensation for the information they provide, and large companies must pay for the information from which they profit.

The more advanced technology becomes, the more all activity becomes mediated by information tools. Therefore, as our economy turns more fully into an information economy, it will only grow if more information is monetized, instead of less. That’s not what we’re doing….

Even the most successful players of the game are gradually undermining the core of their own wealth. Capitalism only works if there are enough successful people to be the customers. A market system can only be sustainable when the accounting is thorough enough to reflect where value comes from, which, I’ll demonstrate, is another way of saying that an information age middle class must come into being.

Continued

 

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Capital in the Twenty-First Century (part 4)

May 23, 2014

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The twenty-first century state

The final part of Piketty’s book deals with the role of the state in 21st-century capitalist society. He focuses on two main objectives:

  • modernizing–but not dismantling–the modern “social state”
  • controlling the trend toward economic inequality by increasing the taxation of capital

The social state

The relatively strong economic growth and greater social equality of the 20th century was accompanied by–and promoted by–a larger government with greater power to tax and spend. Taxes consumed a much larger share of national income: 31% in the US, 40% in Britain, 46% in France and 54% in Sweden at their peak around 1980. (The share had been less than 10% in those same countries in the 19th century.) Public support for such high rates was easier to come by when economies were growing rapidly. High taxes enabled the state to take on new social functions. Governments invested more in the health and education of their citizens, and they provided more income security through retirement systems and support for the disabled, unemployed or otherwise economically needy.

Piketty does not expect to see a further expansion of the social state, since “the state’s great leap forward has already taken place.” He also acknowledges the need to re-examine what we already have: “The tax and transfer systems that are the heart of the modern social state are in constant need of reform and modernization, because they have achieved a level of complexity that makes them difficult to understand and threatens to undermine their social and economic efficacy.”

Piketty notes that modern taxation is no longer very progressive when all types of taxes are taken into account. He believes that how government taxes the largest incomes and fortunes is important for either reinforcing or reducing economic inequality. In the United States, tax rates on the top bracket of income averaged 81% between 1932 and 1980. Today, the top rate is 39.6% for income over $400,000 ($450,000 if married, filing jointly). As noted earlier, the recent reduction in top rates gave executives more incentive to fight for pay increases, since they could now keep most of them. Piketty does not advocate a return to the “confiscatory” rates of the past, but he would like to see a rate of at least 50% for all income over $200,000, “in order for the government to obtain the revenues it sorely needs to develop the meager US social state and invest more in health and education (while reducing the federal deficit)….”

In the US, the maximum rate for capital gains is only 20%, so the effective tax rate on total income is often lower for rich taxpayers than middle-income taxpayers. Countries have been competing against each other in a race to the bottom, trying to attract capital by taxing it lightly. Piketty hopes that more European cooperation can eventually reverse that trend. As for the United States, he ends his discussion of taxes on a pessimistic note:

The history of the progressive tax over the course of the twentieth century suggests that the risk of a drift toward oligarchy is real and gives little reason for optimism about where the United States is headed….Without a radical shock, it seems fairly likely that the current equilibrium will persist for quite some time. The egalitarian pioneer ideal has faded into oblivion, and the New World may be on the verge of becoming the Old Europe of the twenty-first century’s globalized economy.

By “Old Europe,” he means, of course, the land of inherited wealth and extreme inequality.

A global tax on capital

What is most needed to curb excessive inequality and make taxation fairer is “a progressive annual tax on individual wealth–that is, on the net value of assets each person controls.” Since it is a tax on accumulated wealth, not just current income, it would need to be set rather low, just “a few percent.” Like a property tax, it would be small, but much fairer because it would include the financial assets that make up the bulk of large fortunes. Ideally it would be imposed all over the world, but since that is unlikely to happen, the next best thing is to impose it in large areas such as the United States and a more united Europe. Otherwise capital can too easily move around to avoid it. Several European countries have taxes on capital, but they have too many loopholes to be effective.

The main justification would be “contributive”. Net assets is a fairer measure of a wealthy person’s capacity to support government than current income, which doesn’t count unrealized capital gains. A secondary justification would be giving the owners of capital more incentive to seek the best possible return. Those who earned too low a return would have to sell assets to pay their taxes, “thus ensuring that those assets wind up in the hands of more dynamic investors.”

Private wealth, public debt

Piketty finds it shameful that the richest countries in the world have such poor, indebted governments. Virtually all the capital in these countries is private capital, since whatever assets governments hold are offset by their liabilities. Financing the operations of government by borrowing rather than taxing works fine for wealthy people who would rather buy government bonds than pay taxes, but it is less efficient and less just.

Piketty’s preferred method for reducing government debt is higher taxation of capital. A second method is inflation of the money supply, which shrinks the value of the debt while spreading the cost widely through society. Inflation was the main way of reducing public debt in the 20th century, but it has to be used sparingly or it can spiral out of control. The worst method of reducing debt is austerity, which hits the poor the hardest, inhibits economic growth and increases the advantage of capital over labor, in accordance with the book’s main argument. Piketty says that “if the choice is between a little more inflation and a little more austerity, inflation is no doubt preferable.”

Economic conservatives would vigorously disagree. They place the highest priority on fighting inflation and opposing tax increases, so that austerity becomes the preferred method, at least by default. Milton Friedman and the monetarist economists saw regulation of the money supply as the central economic function of government and social spending as dangerously inflationary. “The work of Friedman and other Chicago School economists fostered suspicion of the ever-expanding state and created the intellectual climate in which the conservative revolution of 1979-1980 became possible.”

The European Union developed as a “currency without a state and a central bank without a government” at a time when inflation-fighting was coming to the forefront of public policy. The European Central Bank’s focus on controlling inflation works well for a creditor country like Germany, which can count on low inflation to preserve the value of their loans. It narrows the options of debtor countries like Greece, especially at a time when financial crisis has reduced their tax revenues and undermined confidence in their bonds. They cannot borrow at low interest rates. They cannot devalue the euro to reduce the value of their debts. They cannot effectively tax capital, or capital will just leave the country. So they are forced to prolong recession with unpopular austerity measures.

Piketty wants to see a European Union that is more of a real government, with a fiscal policy as well as an inflation-fighting monetary policy, giving it the capacity to share the debt burden and raise taxes on capital to alleviate that burden.

While the trend of the last few decades has been to deregulate capital and defund the social state, Piketty advocates a different approach for the 21st century: “Although the risk is real, I do not see any genuine alternative: If we are to regain control of capitalism, we must bet everything on democracy–and in Europe, democracy on a European scale.”

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Capital in the Twenty-First Century (part 3)

May 21, 2014

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The structure of inequality

So far I have focused on Piketty’s discussion of the share of national income going to investors, which is highest when the rate of return on capital (r) is much higher than the rate of growth in output and income (g). That in itself would not have to result in very much overall inequality, since in theory every household could derive income from a combination of earnings and investment. Far more households do that today than in the early days of capitalism. But to the extent that the ownership of capital is highly concentrated, the class of capitalists can receive a share of national income out of all proportion to their numbers, and they do.

A quite different source of income inequality is inequality of earnings from labor, which is greater today than in previous centuries. That reinforces the capital inequality, because the highest earners can afford to invest not only a higher absolute amount, but a greater proportion of their earnings.

Piketty thus describes two different–but not mutually exclusive–ways for a capitalist society to generate extreme inequality. In the “hyperpatrimonial society,” more common before the 20th century, the inequality is primarily between the owners of inherited wealth and those who work for a living. In the “hypermeritocratic society,” more characteristic of the 20th century, the inequality is more a matter of differences in pay. Piketty uses the latter term somewhat ironically, since he thinks that the highest paid managers receive compensation far beyond any demonstrable merit.

If Piketty were only describing a transition from patrimony to meritocracy, he wouldn’t be covering any new ground. What he is actually doing is warning that capital accumulation and inherited wealth are on the rise again, so that both sources of inequality may be important once more:

What primarily characterizes the United States at the moment is a record level of inequality of income from labor (probably higher than in any other society at any time in the past, anywhere in the world, including societies in which skill disparities were extremely large) together with a level of inequality of wealth less extreme than the levels observed in traditional societies or in Europe in the period 1900– 1910. It is therefore essential to understand the conditions under which each of these two logics could develop, while keeping in mind that they may complement each other in the century ahead and combine their effects. If this happens, the future could hold in store a new world of inequality more extreme than any that preceded it.

The distribution of capital

Wealth is always more unequally distributed than earnings, since the most fully invested fortunes normally grow at a faster rate than the economy as a whole (r > g). While the top 10% of earners usually get 25-30% of the income from labor, the top 10% of owners has always controlled at least 50% of the wealth. The rest is almost entirely owned by the group between the 50th and 90th percentiles, since the lower half of the population owns practically nothing.

In the societies where wealth is most equally distributed (…the Scandinavian countries in the 1970s and 1980s), the richest 10 percent own around 50 percent of national wealth or even a bit more, somewhere between 50 and 60 percent, if one properly accounts for the largest fortunes. Currently, in the early 2010s, the richest 10 percent own around 60 percent of national wealth in most European countries, and in particular in France, Germany, Britain, and Italy.

In the United States, the share of the richest 10% rose from under 60% in 1810 to 80% in 1910. Then it fell to about 66% by 1940 and 63% by 1970, but then started rising again and was over 70% by 2010. US wealth inequality, traditionally less than that of Europe, has surpassed Europe’s since 1970.

The U-shaped trend in wealth inequality is consistent with Piketty’s earlier discussion of the 20th century. At first, the top decile’s share of the wealth declined, as the growth in earned income created a “patrimonial middle class” that now made enough money to accumulate some capital. Meanwhile, income and estate taxes took their toll on large fortunes. More recently, however, middle-class wage growth and capital accumulation have slowed down, while growth at the top continues, assisted by reductions in income and estate taxes.

The largest fortunes tend to grow the fastest, partly because their owners can afford to reinvest most of the earnings. In addition, they have access to the best financial management and the investments earning the highest returns. Smaller investors put more of their money in safe but low-return instruments, such as bank accounts.

The portion of wealth that is inherited has also followed a U-shaped curve. In France, the country with the best inheritance data, inherited wealth amounted to 80-90% of all private capital in the 19th and early 20th centuries, fell to just over 40% by 1970, but rose to about two-thirds in 2010. Piketty expects it to be approaching 80% again by the 2030s, a situation increasingly difficult to defend: “No matter how justified inequalities of wealth my be initially, fortunes can grow and perpetuate themselves beyond all reasonable limits and beyond any possible rational justification in terms of social utility.”

Although many people worry about new forms of global inequality, such as the ownership of too many global assets by China or Saudi Arabia, Piketty sees much greater potential for “the rich countries…to be owned by their own billionaires or, more generally…all countries…to be owned more and more by the planet’s billionaires and multimillionaires.”

The distribution of earnings

Earnings from labor are not as unequally distributed as are capital and the return on capital. But they are becoming more unequally distributed, and that trend is a major driver of increasing inequality in general. Bear in mind that we are talking only about income from labor, excluding any income from capital:

In countries where income from labor is most equally distributed, such as the Scandinavian countries between 1970 and 1990, the top 10 percent of earners receive about 20 percent of total wages and the bottom 50 percent about 35 percent. In countries where wage inequality is average, including most European countries (such as France and Germany) today, the first group claims 25– 30 percent of total wages, and the second around 30 percent. And in the most inegalitarian countries , such as the United States in the early 2010s (where…income from labor is about as unequally distributed as has ever been observed anywhere), the top decile gets 35 percent of the total, whereas the bottom half gets only 25 percent.

Mainstream economic theory rests on two main hypotheses about earnings: “First, a worker’s wage is equal to his marginal productivity, that is, his individual contribution to the output of the firm or office for which he works. Second, the worker’s productivity depends above all on his skill and on supply and demand for that skill in a given society.” This sets up a race between education and technology. New technologies increase the demand for new skills and reduce the demand for unskilled labor, and educational credentials have to keep up to justify decent wages. One implication is that egalitarian access to higher education, as in the Scandinavian countries, should be reflected in more egalitarian wage structures.

Piketty finds this theory too limiting, however, in that it leaves out “other factors, such as the institutions and rules that govern the operation of the labor market in each society.” In the US, most workers have little bargaining power, while “at the very highest levels salaries are set by the executives themselves or by corporate compensation committees whose members usually earn comparable salaries (such as senior executives of other large corporations). He also observes that the countries where executive salaries have skyrocketed are the same countries that have put an end to very high marginal tax rates on the highest incomes, so that managers now have a greater incentive to fight for higher pay. Corporate managers make up 60-70%of the very highest paid workers (the top 0.1% of the income hierarchy).

The distribution of total income

The distribution of total income in the United States is a combination of the distributions of both labor income and investment income, with the first contributing more than the second. The portion of total income received by the richest 10% was a little over 40% in 1900-1920, rose to over 50% in the 1920s before the stock market crash, and then declined until fluctuating in the range of 30-35% between 1950 and 1980. “Since 1980, however, income inequality has exploded in the United States. The upper decile’s share increased…to 45-50 percent in the 2000s–an increase of 15 points of national income.” So 15% of the national income was transferred to the top 10% from everybody else. Furthermore, “the bulk of the growth of inequality came from ‘the 1 percent,’ whose share of national income rose from 9 percent in the 1970s to about 20 percent in 2000-2010.”

Piketty believes that this growing inequality was a contributing factor to the financial crisis:

In my view, there is absolutely no doubt that the increase of inequality in the United States contributed to the nation’s financial instability. The reason is simple: one consequence of increasing inequality was virtual stagnation of the purchasing power of the lower and middle classes in the United States , which inevitably made it more likely that modest households would take on debt, especially since unscrupulous banks and financial intermediaries, freed from regulation and eager to earn good yields on the enormous savings injected into the system by the well-to-do, offered credit on increasingly generous terms.

Continued

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Posted by Ed Steffes

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