Tragedy, Romance & Economics

Much of classical literature revolved around tragedies of one sort or another. Most of modern literature is preoccupied with sex and romance in all their possible permutations. It is a rare book on economics that makes it onto best seller lists. So when the book Capital in the Twenty First Century made it onto the Best Seller lists, I decided to follow the crowd and read it as well.

I think it is an important contribution to our understanding of the dynamics of wealth distribution in modern economies. The author Thomas Piketty takes pride in the fact that his conclusion are based on a wealth of data both historical and modern over a number of  different countries.

Anyway a good of the book is taken up with telling the story of the distribution of wealth within the last few hundred years, which is quite interesting and written in a relatable manner. This could however be summarised by saying that historically the economic gap between the top one or ten percent of society and the rest was historic large. Income inequality dropped significantly between the start of the first World War and the end of the Second. However since then economic inequality has been on an upward trend such that nowadays economic inequality is high and rising.

The really interesting question of course is what the future holds. Will the rich continue to get richer and the poor get poorer ad infinitum or will the trends reverse at some stage.

Thomas Piketty is of the opinion that the rich will indeed continue to get richer and the poor will continue to get poorer relatively speaking unless there is some major catastrophe (in which case everyone will get poorer) or unless governments make changes to the economic regime.

The basic reasons why the rich will continue to get richer relatively speaking are summarised below in the book (well actually political leverage I have added as it is obviously a factor as well.)

Obviously it is easier to amass historical data than to forecast what will happen in the future. Be that as it may simulations of one sort or another are the best tool that we have.

I have run a simulation which shows the effect accumulated effect of  slight variations in returns on capital over 50 years (obviously the exact effect will depend on the exact numbers used). My simulation is meant for illustrative purposes only as can be seen below:

 

Historically there have been a number of solutions to inequality. At the extreme end of the scale there have been revolutions and wars of one sort or another which have effectively been a sort of instant redistribution of wealth. .At the more moderate end of the scale progressive taxation is a method of redistribution which has the advantage of allowing for stability as well as peace.

Below is a simulation again for illustrative purposes over 50 years showing that progressive taxation can lead to a relatively stable distribution of wealth.

The real problem nowadays is that national governments are limited in their ability to raise taxes especially on the the richer segments of society by the ease with which money can be transferred between different countries and also by downright tax evasion .

I have added a simulation again for illustrative purposes over 50 years showing that effect of loss of capital.

 

The ideal solution would be a la Piketty would be progressive global tax. Being global there would be no way to avoid paying it. This would enable a stable long term equilibrium in wealth distribution.

The real problem is currently there is no mechanism for establishing such a progressive global tax. The next best solution would be for some countries or economic grouping such as EU to establish such a progressive capital tax and along with that to implement capital controls or similar mechanisms to ensure that the taxation regime is stable and viable.

I will add as a final note that there are a great many problems on the global stage for which there are a need for considerable resources including the ecological issues and the humanitarian ones. All of those things need a great deal of Capital hence it is imperative to find real and sustainable economic sources.

Many, probably most, people do not really understand how the global economy works and/or how it could be improved to work better for the mass of humanity. I think this book is an important contribution to furthering understanding.

Maybe if we want to avoid unnecessary tragedies down the line, it is time for the producers of popular culture to reduce ever so slightly the preponderance of sex and romance and to find interesting ways to serve up some more economic fundamentals …

External Links/Interesting

Elizabeth Warren on Fair Taxation

Why “soak the rich” doesn’t work on a local level- John Tillman on Fox Chicago