Worldly Philosopher: Must the Rich Grow Richer? Long-Term Trends in the Capital Share in Income
This week's Worldly Philosopher, Gregor Semieniuk, writes on the theoretical assumptions underlying Thomas Piketty's forecast of a growing share of income going to the rich.
The future share of total income that accrues as return on capital need not keep rising. The New School's Lance Taylor argues that the capital share trajectory rather depends on the assumptions in your model of growth and distribution. Taylor critiques Thomas Piketty who asserts in his celebrated book that the share of national income going to rich capital owners should rise in the 21st century, and may only be reduced by cataclysmic events such as wars or revolutions (Piketty 2014, p. 233). This post summarizes Taylor's argument.
In his discussion of the future share of capital, Piketty (2014, p. 210-233) elides a discussion of some social determinants of the distribution of wealth. Instead he assumes the problematic aggregate production function that determines returns to fully employed input factors, labor and capital, and a rising share of capital in income as more capital relative to labor is used (that is an elasticity of substitution greater than one – far from uncontroversial). These assumptions combine with his “fundamental laws of capitalims” to determine that capital will command an increasing share of income.
The Medium Run
Taylor points out that Piketty's two “fundamental laws” are actually accounting identities and that the rate of return is greater than the growth rate (r > g) whenever the share of income going to capital exceeds the share of income saved, which is typically the case. The question is how the share of capital, also called profit share, is determined. Taylor offers a theory both for the medium and long runs. For the medium run, he explains a cyclical (not ever rising!) movement of the profit share. The story goes as follows: The economy does not always operate at full capacity (nor employment), but in an economic upswing where profitable investments are made that fuel demand and further growth, the profit share is ultimately diminished because of more and rising wages in an economy with a low unemployment rate. The lower profit share and rate of profit lead to less investment, demand and employment, that devour the high wage share. Eventually, the profit share rises enough to lead to an increase in investment to begin a new cycle.
Empirical evidence for this cycle for the U.S. is provided by New School alumna Codrina Rada with co-author David Kiefer and New School alumnus, Nelson Barbosa in work with Taylor. The cycle's location has changed recently to revolve around a higher profit share, and Rada and Kiefer find that several socioeconomic variables such as globalization of production, labor's bargaining power, increasing financialization, and shifts in production technology help explain the shift.
The Long Run
For the longer run, Taylor uses the model by Luigi Pasinetti (1962) , in which savings of parts of wages by workers leads to ownership of part of the capital stock and thus return on capital for wage earners. Then who owns what part of the capital stock depends on the profit share and on the saving rates of rentiers and wage earners. Adapting Pasinetti's framework to allow for less than full-employment by making the economy demand-driven, Taylor shows that depending on the how profit share is determined and what saving rates (and taxes) prevail, both a very inequitable but also a more equal distribution of the ownership of the capital stock is possible.
Piketty recommends a utopian tax as an unrealistic fix for inequality. But the determination of the profit share is not set in stone but contingent on social and political processes. Taylor shows how these processes may influence the ownership of wealth in the long-run. By explaining the change in parameters which the economic model Piketty employs treats as given, one can find other, more realistic fields for action. Piketty could agree with this – he is a champion for more collaboration between social sciences (Piketty p. 32 and 573) – so why not also listen to what various economic theories have to say?