Wealth, money and inequality in the twenty-first century

How much capital there is in the twenty-first century may not be relevent to our prosperity.  What is likely to be more relevant is the resource base and our capacity to create money.  Taxing the rich would be one, hardly original,  way to deal with inequality.  Another way would be to increase competition so that there are fewer profits to tax and to introduce a basic income scheme which would reduce the supply of workers.

These thoughts are prompted by all the hype about the book Capital in the Twenty-First Century by Thomas Piketty.  I must state I have not read the book.  For this post I have relied on several articles in The Economist.

As I understand it this guy has collected a lot of data which shows how inequality has been increasing.  One of the big criticisms has been that some of his data may be inaccurate.   So?   There is a lot of anecdotal evidence that the rich are getting richer and the poor are getting poorer.

One of my concerns is with the word wealth because I think it may be misleading.  The word wealth derives from the part of the definition of money which says money is a store of value.  But the store of value does not always hold.  Wealth can sometimes be lost a lot quicker than it can be earned.  Inflation, the failure of enterprises or government haircuts can very quickly rob people of their savings or wealth.  All of these have happened and are likely to continue.

Piketty says we have inequality because the return on capital tends to be higher than growth.  But  wealth may not be relevant for economic growth.  Much more important are the ability to create money (the availability of credit) and the availability of easily accessible energy and mineral resources.  It may be that people with some “wealth”  have easier access to the credit which is necessary for economic projects.  One of the reasons for the current economic downturn may be that we have consumed the most accessible energy and mineral resources.  What remains is difficult to extract.

A while age I enjoyed reading about the building of the pyramids because this was done without money.  The Egyptians may have stored some materials but most of the work was done “in real-time” without capital.  Our own economy may work in a similar way with money representing “real-time” purchasing power.  When one invests money one is transferring current purchasing power to somebody else.  The money supply or the supply of credit is more important than wealth or capital because what is needed is purchasing power to facilitate economic activity.  Purchasing power which has been transferred will not always be returned intact.  It can be reduced by enterprise failure, inflation or a government haircut.  Money or the supply of credit is created when the banks make loans.

Apparently a good part of this book is statistics to show the concentration of wealth in several industrial countries.  But inequality is a two-sided coin.  It may be that inequality is increasing because there is less income going to workers and this is because wages are falling from changes in the supply and demand for labor.  During the industrial revolution and the recent golden age of prosperity there has been a steady demand for workers and wages have risen.  With the recent improvements in technological productivity and the economic downturn the demand for workers has fallen and so have wages.

The rich are getting richer because they operate in fields where government legislation restricts competition and because they are good at working the system to exploit others.  During the golden age of prosperity when there was abundant production and wages were high this wasn’t a problem for the rest of us.  Now that the economy is on a down trend the inequalities are becoming more noticeable.

Piketty starts his analysis of inequality with the industrial revolution but I have it in my mind that inequality has been a feature of most large-scale civilizations through the millenia.  A longer-term analysis might give a  different perspective.  I suspect the a high degree of inequality is the norm and we have recently been through an abnormal period.

Piketty proposes to deal with inequality via taxation of the rich. Some other ideas might be to increase the amount of competition in the economy which would reduce profits or to introduce a universal basic income scheme which would work to decrease the supply of workers and thus bring up wages.

So far as I can see the main accomplishment of this book is to generate some economic hot air and to divert some “wealth” to its author.

Some reasons economists don’t get it.

What is wrong with economics?  Through the years a lot of people, including the current group of students have recognized there are problems.  This blogger figures there are two types of problems –  problems with human nature and problems within economic theory and understanding.

Most of us most of the time think and act in our own short-term interests,  Some people won’t listen to things that contradict their interests.  This can be a problem for economists as their paychecks often depend upon telling business people and politicians what they want to hear.  It is likely some of the students demanding changes in the way economic is taught will have to come to terms with this.

The other human nature problem which interferes with economics is that some people like to exploit others – sometimes deliberately and sometimes because they believe it is their right.  Using money as a tool to facilitate the exchange of goods and services allows us to have economic relationships with strangers from many parts of the world..  It also makes it easier for some people to exploit others. I am currently reading The Big Short by Michael Lewis in which he details the people who foresaw the subprime mortgage bust and profited from it.  It’s sort of interesting to see the exploiters being conned although I  believe that for relationships to be satisfactory there needs to be a more or less equal two-way exchange.  Another interesting thing is that most of the players on either side came out of it rich.

Neither of these human nature problems is likely to be resolved by changing the economic curriculum or the way the subject is taught.

It may be that for economists to tell their employers what they want to hear the economists have to be blind to some realities.  Here are four examples.

One of the greatest of economic myths is that growth can continue forever.  Economists occasionally talk about scarce resources then assume that there never will be scarcity.  Yes, we still have lots of mineral and energy resources.  However we have used up the most easily accessible of them.  What’s left is difficult and takes lots of energy to extract. This is a diversion of energy from other uses.  From history we know that all previous civilizations have collapsed.  Some people talk as if we will be the exception.

The second unseen reality relates to free market competition.  The problem with competition is that the more competition the smaller the profits.  In large parts of our economy competition is restricted by government legislation and regulation.  Licenses, patents, copyright, tariffs all allow firms to make profits they wouldn’t get with full competition.  It also means consumers pay more than they would otherwise.  When we talk about a market economy we ignore how governments work to restrict competition.

Sometimes economists distinguish between the real economy and the financial economy.  It’s an important distinction and we lose some understanding when we forget it as we often do.  My favorite example is with pensions.  Most people plan their pensions in money terms.  But there are three things that can happen to one’s pension savings:  inflation, failure of the firms in which savings have been invested and a government mandated haircut.  For most of us our standard of living in retirement will depend upon the ratio of goods and services produced to the number of people making demands on those goods and services.  If we experience a major drop in production, it will not matter how much pension money one has.  It might be prudent to plan for retirement at least partially in terms of the physical economy. How about a large garden?

The complexities of money creation and the deep emotions associated with money make it the most misunderstood and problematic  aspect of economics.  A number of posts on this weblog have dealt with the problems of money.  I believe that in the fractional reserve method of creating money economists have ignored the fact that interest is charged on the money created.  This feature makes the fractional reserve money into a Ponzi scheme. This explains the regular financial crises our economy has experienced.  If more people understood how the banking system creates money and the problems, we would probably be demanding changes which would take away from the profits and powers of bankers. How many economists would even dare to think that?

There appear to be lots of problems within economics.  How we exchange goods and services and the relationships involved in these transactions are an important part of our lives. It may be that some people can  benefit if most of us don’t see these relationships clearly. However, I think we would all be happier if we did.


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