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I’ll admit that I haven’t read the 700 pages of Thomas Piketty’s acclaimed (by all the usual suspects) “Capital in the Twenty-First Century.” But then neither have most of the people who are acclaiming it. In any case, here’s what puzzles me:
Piketty’s thesis is built on the statement r > g, which means that the return on capital exceeds the growth rate of the economy. From this, Piketty extrapolates that the capital stock will rise endlessly relative to the economy and, because capital is by definition held predominantly by the rich, rising capital income will drive overall income inequality ever-upward. So we need a massive wealth tax, revolution, whatever.
Here’s where the puzzlement comes in: pretty much every economics textbook will tell you that r > g, but none of the textbook models take from this that the capital stock will rise endlessly relative to the economy. Most of them hold that it stays pretty constant, and the historical evidence supports that view.
The reason is that accumulated wealth is usually spent. For most of us, we save while working and draw down those savings in retirement. In that case, the capital stock grows not with r but with g, since that’s the rate of growth of the incomes out of which we save. If this is the case, then you just don’t get the result that Piketty claims.
But what if people don’t spend down their savings? That seems to be Piketty’s assumption, at least for the very rich: they build more and more wealth which they don’t spend, and that wealth generates capital income, which they also don’t spend, and so on. If that happens, then the capital-output ratio does keep rising.
But this also means that Piketty’s rich-get-ever-richer projection can happen only if the rich don’t live like rich people, that is, that they don’t spend their wealth or the income generated by their wealth. All those savings just sit there making the economy more productive and, in the process, raising wages for the proletariat while the top 1% don’t actually consume any of the returns on those savings. Piketty’s scenario is close to Charles Murray’s desire that the rich live a little less ostentatiously.
So when you see the hedge fund manager with the $100 million apartment or the entertainment mogul with the even more expensive yacht, you’re seeing Piketty’s thesis not at work, since by spending their wealth on these things rather than just letting it sit the growth of capital is being undermined. In other words, for Piketty’s prediction to come about you need a top 1% that doesn’t live like the top 1%. Which is fine by me.
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