Sunday, January 10, 2016

From the Introduction to Capital in the Twenty-First Century, by Thomas Piketty

“Social distinctions can be based only on common utility.”—Declaration of the Rights of Man and the Citizen, article 1, 1789
Cover: Capital in the Twenty-First Century, by Thomas Piketty
The distribution of wealth is one of today’s most widely discussed and controversial issues. But what do we really know about its evolution over the long term? Do the dynamics of private capital accumulation inevitably lead to the concentration of wealth in ever fewer hands, as Karl Marx believed in the nineteenth century? Or do the balancing forces of growth, competition, and technological progress lead in later stages of development to reduced inequality and greater harmony among the classes, as Simon Kuznets thought in the twentieth century? What do we really know about how wealth and income have evolved since the eighteenth century, and what lessons can we derive from that knowledge for the century now under way?
These are the questions I attempt to answer in this book. Let me say at once that the answers contained herein are imperfect and incomplete. But they are based on much more extensive historical and comparative data than were available to previous researchers, data covering three centuries and more than twenty countries, as well as on a new theoretical framework that affords a deeper understanding of the underlying mechanisms. Modern economic growth and the diffusion of knowledge have made it possible to avoid the Marxist apocalypse but have not modified the deep structures of capital and inequality—or in any case not as much as one might have imagined in the optimistic decades following World War II. When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based. There are nevertheless ways democracy can regain control over capitalism and ensure that the general interest takes precedence over private interests, while preserving economic openness and avoiding protectionist and nationalist reactions. The policy recommendations I propose later in the book tend in this direction. They are based on lessons derived from historical experience, of which what follows is essentially a narrative.

A Debate without Data?

Intellectual and political debate about the distribution of wealth has long been based on an abundance of prejudice and a paucity of fact.
To be sure, it would be a mistake to underestimate the importance of the intuitive knowledge that everyone acquires about contemporary wealth and income levels, even in the absence of any theoretical framework or statistical analysis. Film and literature, nineteenth-century novels especially, are full of detailed information about the relative wealth and living standards of different social groups, and especially about the deep structure of inequality, the way it is justified, and its impact on individual lives. Indeed, the novels of Jane Austen and Honoré de Balzac paint striking portraits of the distribution of wealth in Britain and France between 1790 and 1830. Both novelists were intimately acquainted with the hierarchy of wealth in their respective societies. They grasped the hidden contours of wealth and its inevitable implications for the lives of men and women, including their marital strategies and personal hopes and disappointments. These and other novelists depicted the effects of inequality with a verisimilitude and evocative power that no statistical or theoretical analysis can match.
Indeed, the distribution of wealth is too important an issue to be left to economists, sociologists, historians, and philosophers. It is of interest to everyone, and that is a good thing. The concrete, physical reality of inequality is visible to the naked eye and naturally inspires sharp but contradictory political judgments. Peasant and noble, worker and factory owner, waiter and banker: each has his or her own unique vantage point and sees important aspects of how other people live and what relations of power and domination exist between social groups, and these observations shape each person’s judgment of what is and is not just. Hence there will always be a fundamentally subjective and psychological dimension to inequality, which inevitably gives rise to political conflict that no purportedly scientific analysis can alleviate. Democracy will never be supplanted by a republic of experts—and that is a very good thing.
Expert analysis will never put an end to the violent political conflict that inequality inevitably instigates. Social scientific research is and always will be tentative and imperfect. It does not claim to transform economics, sociology, and history into exact sciences. But by patiently searching for facts and patterns and calmly analyzing the economic, social, and political mechanisms that might explain them, it can inform democratic debate and focus attention on the right questions.
Nevertheless, the distribution question also deserves to be studied in a systematic and methodical fashion. Without precisely defined sources, methods, and concepts, it is possible to see everything and its opposite. Some people believe that inequality is always increasing and that the world is by definition always becoming more unjust. Others believe that inequality is naturally decreasing, or that harmony comes about automatically, and that in any case nothing should be done that might risk disturbing this happy equilibrium. Given this dialogue of the deaf, in which each camp justifies its own intellectual laziness by pointing to the laziness of the other, there is a role for research that is at least systematic and methodical if not fully scientific. Expert analysis will never put an end to the violent political conflict that inequality inevitably instigates. Social scientific research is and always will be tentative and imperfect. It does not claim to transform economics, sociology, and history into exact sciences. But by patiently searching for facts and patterns and calmly analyzing the economic, social, and political mechanisms that might explain them, it can inform democratic debate and focus attention on the right questions. It can help to redefine the terms of debate, unmask certain preconceived or fraudulent notions, and subject all positions to constant critical scrutiny. In my view, this is the role that intellectuals, including social scientists, should play, as citizens like any other but with the good fortune to have more time than others to devote themselves to study (and even to be paid for it—a signal privilege).
There is no escaping the fact, however, that social science research on the distribution of wealth was for a long time based on a relatively limited set of firmly established facts together with a wide variety of purely theoretical speculations. Before turning in greater detail to the sources I tried to assemble in preparation for writing this book, I want to give a quick historical overview of previous thinking about these issues.

Malthus, Young, and the French Revolution

When classical political economy was born in England and France in the late eighteenth and early nineteenth century, the issue of distribution was already one of the key questions. Everyone realized that radical transformations were under way, precipitated by sustained demographic growth—a previously unknown phenomenon—coupled with a rural exodus and the advent of the Industrial Revolution. How would these upheavals affect the distribution of wealth, the social structure, and the political equilibrium of European society?
Title page of the original edition of An Essay on the Principle of Population.
For Thomas Malthus, who in 1798 published his Essay on the Principle of Population, there could be no doubt that the primary threat to European society was overpopulation.
For Thomas Malthus, who in 1798 published his Essay on the Principle of Population, there could be no doubt: the primary threat was overpopulation.1 Although his sources were thin, he made the best he could of them. One particularly important influence was the travel diary published by Arthur Young, an English agronomist who traveled extensively in France, from Calais to the Pyrenees and from Brittany to Franche-Comté, in 1787–1788, on the eve of the Revolution. Young wrote of the poverty of the French countryside.
His vivid essay was by no means totally inaccurate. France at that time was by far the most populous country in Europe and therefore an ideal place to observe. The kingdom could already boast of a population of 20 million in 1700, compared to only 8 million for Great Britain (and 5 million for England alone). The French population increased steadily throughout the eighteenth century, from the end of Louis XIV’s reign to the demise of Louis XVI, and by 1780 was close to 30 million. There is every reason to believe that this unprecedentedly rapid population growth contributed to a stagnation of agricultural wages and an increase in land rents in the decades prior to the explosion of 1789. Although this demographic shift was not the sole cause of the French Revolution, it clearly contributed to the growing unpopularity of the aristocracy and the existing political regime.
Nevertheless, Young’s account, published in 1792, also bears the traces of nationalist prejudice and misleading comparison. The great agronomist found the inns in which he stayed thoroughly disagreeable and disliked the manners of the women who waited on him. Although many of his observations were banal and anecdotal, he believed he could derive universal consequences from them. He was mainly worried that the mass poverty he witnessed would lead to political upheaval. In particular, he was convinced that only the English political system, with separate houses of Parliament for aristocrats and commoners and veto power for the nobility, could allow for harmonious and peaceful development led by responsible people. He was convinced that France was headed for ruin when it decided in 1789–1790 to allow both aristocrats and commoners to sit in a single legislative body. It is no exaggeration to say that his whole account was overdetermined by his fear of revolution in France. Whenever one speaks about the distribution of wealth, politics is never very far behind, and it is difficult for anyone to escape contemporary class prejudices and interests.
When Reverend Malthus published his famous Essay in 1798, he reached conclusions even more radical than Young’s. Like his compatriot, he was very afraid of the new political ideas emanating from France, and to reassure himself that there would be no comparable upheaval in Great Britain he argued that all welfare assistance to the poor must be halted at once and that reproduction by the poor should be severely scrutinized lest the world succumb to overpopulation leading to chaos and misery. It is impossible to understand Malthus’s exaggeratedly somber predictions without recognizing the way fear gripped much of the European elite in the 1790s.

Ricardo: The Principle of Scarcity

In retrospect, it is obviously easy to make fun of these prophecies of doom. It is important to realize, however, that the economic and social transformations of the late eighteenth and early nineteenth centuries were objectively quite impressive, not to say traumatic, for those who witnessed them. Indeed, most contemporary observers—and not only Malthus and Young—shared relatively dark or even apocalyptic views of the long-run evolution of the distribution of wealth and class structure of society. This was true in particular of David Ricardo and Karl Marx, who were surely the two most influential economists of the nineteenth century and who both believed that a small social group—landowners for Ricardo, industrial capitalists for Marx—would inevitably claim a steadily increasing share of output and income.2
For Ricardo, who published his Principles of Political Economy and Taxation in 1817, the chief concern was the long-term evolution of land prices and land rents. Like Malthus, he had virtually no genuine statistics at his disposal. He nevertheless had intimate knowledge of the capitalism of his time. Born into a family of Jewish financiers with Portuguese roots, he also seems to have had fewer political prejudices than Malthus, Young, or Smith. He was influenced by the Malthusian model but pushed the argument farther. He was above all interested in the following logical paradox. Once both population and output begin to grow steadily, land tends to become increasingly scarce relative to other goods. The law of supply and demand then implies that the price of land will rise continuously, as will the rents paid to landlords. The landlords will therefore claim a growing share of national income, as the share available to the rest of the population decreases, thus upsetting the social equilibrium. For Ricardo, the only logically and politically acceptable answer was to impose a steadily increasing tax on land rents.
This somber prediction proved wrong: land rents did remain high for an extended period, but in the end the value of farm land inexorably declined relative to other forms of wealth as the share of agriculture in national income decreased. Writing in the 1810s, Ricardo had no way of anticipating the importance of technological progress or industrial growth in the years ahead. Like Malthus and Young, he could not imagine that humankind would ever be totally freed from the alimentary imperative.
His insight into the price of land is nevertheless interesting: the “scarcity principle” on which he relied meant that certain prices might rise to very high levels over many decades. This could well be enough to destabilize entire societies. The price system plays a key role in coordinating the activities of millions of individuals—indeed, today, billions of individuals in the new global economy. The problem is that the price system knows neither limits nor morality.
It would be a serious mistake to neglect the importance of the scarcity principle for understanding the global distribution of wealth in the twenty-first century. To convince oneself of this, it is enough to replace the price of farmland in Ricardo’s model by the price of urban real estate in major world capitals, or, alternatively, by the price of oil. In both cases, if the trend over the period 1970–2010 is extrapolated to the period 2010–2050 or 2010–2100, the result is economic, social, and political disequilibria of considerable magnitude, not only between but within countries—disequilibria that inevitably call to mind the Ricardian apocalypse.
To be sure, there exists in principle a quite simple economic mechanism that should restore equilibrium to the process: the mechanism of supply and demand. If the supply of any good is insufficient, and its price is too high, then demand for that good should decrease, which should lead to a decline in its price. In other words, if real estate and oil prices rise, then people should move to the country or take to traveling about by bicycle (or both). Never mind that such adjustments might be unpleasant or complicated; they might also take decades, during which landlords and oil well owners might well accumulate claims on the rest of the population so extensive that they could easily come to own everything that can be owned, including rural real estate and bicycles, once and for all.3 As always, the worst is never certain to arrive. It is much too soon to warn readers that by 2050 they may be paying rent to the emir of Qatar. I will consider the matter in due course, and my answer will be more nuanced, albeit only moderately reassuring. But it is important for now to understand that the interplay of supply and demand in no way rules out the possibility of a large and lasting divergence in the distribution of wealth linked to extreme changes in certain relative prices. This is the principal implication of Ricardo’s scarcity principle. But nothing obliges us to roll the dice.

Marx: The Principle of Infinite Accumulation

By the time Marx published the first volume of Capital in 1867, exactly one-half century after the publication of Ricardo’s Principles, economic and social realities had changed profoundly: the question was no longer whether farmers could feed a growing population or land prices would rise sky high but rather how to understand the dynamics of industrial capitalism, now in full blossom.
The most striking fact of the day was the misery of the industrial proletariat. Despite the growth of the economy, or perhaps in part because of it, and because, as well, of the vast rural exodus owing to both population growth and increasing agricultural productivity, workers crowded into urban slums. The working day was long, and wages were very low. A new urban misery emerged, more visible, more shocking, and in some respects even more extreme than the rural misery of the Old Regime. Germinal, Oliver Twist, and Les Misérables did not spring from the imaginations of their authors, any more than did laws limiting child labor in factories to children older than eight (in France in 1841) or ten in the mines (in Britain in 1842). Dr. Villermé’s Tableau de l’état physique et moral des ouvriers employés dans les manufactures, published in France in 1840 (leading to the passage of a timid new child labor law in 1841), described the same sordid reality as The Condition of the Working Class in England, which Friedrich Engels published in 1845.4
What we see in the period 1870–1914 is at best a stabilization of inequality at an extremely high level, and in certain respects an endless inegalitarian spiral, marked in particular by increasing concentration of wealth. It is quite difficult to say where this trajectory would have led without the major economic and political shocks initiated by the war. With the aid of historical analysis and a little perspective, we can now see those shocks as the only forces since the Industrial Revolution powerful enough to reduce inequality.
In fact, all the historical data at our disposal today indicate that it was not until the second half—or even the final third—of the nineteenth century that a significant rise in the purchasing power of wages occurred. From the first to the sixth decade of the nineteenth century, workers’ wages stagnated at very low levels—close or even inferior to the levels of the eighteenth and previous centuries. This long phase of wage stagnation, which we observe in Britain as well as France, stands out all the more because economic growth was accelerating in this period. The capital share of national income—industrial profits, land rents, and building rents—insofar as can be estimated with the imperfect sources available today, increased considerably in both countries in the first half of the nineteenth century.5 It would decrease slightly in the final decades of the nineteenth century, as wages partly caught up with growth. The data we have assembled nevertheless reveal no structural decrease in inequality prior to World War I. What we see in the period 1870–1914 is at best a stabilization of inequality at an extremely high level, and in certain respects an endless inegalitarian spiral, marked in particular by increasing concentration of wealth. It is quite difficult to say where this trajectory would have led without the major economic and political shocks initiated by the war. With the aid of historical analysis and a little perspective, we can now see those shocks as the only forces since the Industrial Revolution powerful enough to reduce inequality.
In any case, capital prospered in the 1840s and industrial profits grew, while labor incomes stagnated. This was obvious to everyone, even though in those days aggregate national statistics did not yet exist. It was in this context that the first communist and socialist movements developed. The central argument was simple: What was the good of industrial development, what was the good of all the technological innovations, toil, and population movements if, after half a century of industrial growth, the condition of the masses was still just as miserable as before, and all lawmakers could do was prohibit factory labor by children under the age of eight? The bankruptcy of the existing economic and political system seemed obvious. People therefore wondered about its long-term evolution: what could one say about it?
This was the task Marx set himself. In 1848, on the eve of the “spring of nations” (that is, the revolutions that broke out across Europe that spring), he published The Communist Manifesto, a short, hard-hitting text whose first chapter began with the famous words “A specter is haunting Europe—the specter of communism.”6 The text ended with the equally famous prediction of revolution: “The development of Modern Industry, therefore, cuts from under its feet the very foundation on which the bourgeoisie produces and appropriates products. What the bourgeoisie therefore produces, above all, are its own gravediggers. Its fall and the victory of the proletariat are equally inevitable.”
Over the next two decades, Marx labored over the voluminous treatise that would justify this conclusion and propose the first scientific analysis of capitalism and its collapse. This work would remain unfinished: the first volume of Capital was published in 1867, but Marx died in 1883 without having completed the two subsequent volumes. His friend Engels published them posthumously after piecing together a text from the sometimes obscure fragments of manuscript Marx had left behind.
Like Ricardo, Marx based his work on an analysis of the internal logical contradictions of the capitalist system. He therefore sought to distinguish himself from both bourgeois economists (who saw the market as a self-regulated system, that is, a system capable of achieving equilibrium on its own without major deviations, in accordance with Adam Smith’s image of “the invisible hand” and Jean-Baptiste Say’s “law” that production creates its own demand), and utopian socialists and Proudhonians, who in Marx’s view were content to denounce the misery of the working class without proposing a truly scientific analysis of the economic processes responsible for it.7 In short, Marx took the Ricardian model of the price of capital and the principle of scarcity as the basis of a more thorough analysis of the dynamics of capitalism in a world where capital was primarily industrial (machinery, plants, etc.) rather than landed property, so that in principle there was no limit to the amount of capital that could be accumulated. In fact, his principal conclusion was what one might call the “principle of infinite accumulation,” that is, the inexorable tendency for capital to accumulate and become concentrated in ever fewer hands, with no natural limit to the process. This is the basis of Marx’s prediction of an apocalyptic end to capitalism: either the rate of return on capital would steadily diminish (thereby killing the engine of accumulation and leading to violent conflict among capitalists), or capital’s share of national income would increase indefinitely (which sooner or later would unite the workers in revolt). In either case, no stable socioeconomic or political equilibrium was possible.
Photo portrait of Karl Marx in 1875.
Karl Marx began with an important question and tried to answer it with the means at his disposal: economists today would do well to take inspiration from his example.
Marx’s dark prophecy came no closer to being realized than Ricardo’s. In the last third of the nineteenth century, wages finally began to increase: the improvement in the purchasing power of workers spread everywhere, and this changed the situation radically, even if extreme inequalities persisted and in some respects continued to increase until World War I. The communist revolution did indeed take place, but in the most backward country in Europe, Russia, where the Industrial Revolution had scarcely begun, whereas the most advanced European countries explored other, social democratic avenues— fortunately for their citizens. Like his predecessors, Marx totally neglected the possibility of durable technological progress and steadily increasing productivity, which is a force that can to some extent serve as a counterweight to the process of accumulation and concentration of private capital. He no doubt lacked the statistical data needed to refine his predictions. He probably suffered as well from having decided on his conclusions in 1848, before embarking on the research needed to justify them. Marx evidently wrote in great political fervor, which at times led him to issue hasty pronouncements from which it was difficult to escape. That is why economic theory needs to be rooted in historical sources that are as complete as possible, and in this respect Marx did not exploit all the possibilities available to him.8 What is more, he devoted little thought to the question of how a society in which private capital had been totally abolished would be organized politically and economically—a complex issue if ever there was one, as shown by the tragic totalitarian experiments undertaken in states where private capital was abolished.
Despite these limitations, Marx’s analysis remains relevant in several respects. First, he began with an important question (concerning the unprecedented concentration of wealth during the Industrial Revolution) and tried to answer it with the means at his disposal: economists today would do well to take inspiration from his example. Even more important, the principle of infinite accumulation that Marx proposed contains a key insight, as valid for the study of the twenty-first century as it was for the nineteenth and in some respects more worrisome than Ricardo’s principle of scarcity. If the rates of population and productivity growth are relatively low, then accumulated wealth naturally takes on considerable importance, especially if it grows to extreme proportions and becomes socially destabilizing. In other words, low growth cannot adequately counterbalance the Marxist principle of infinite accumulation: the resulting equilibrium is not as apocalyptic as the one predicted by Marx but is nevertheless quite disturbing. Accumulation ends at a finite level, but that level may be high enough to be destabilizing. In particular, the very high level of private wealth that has been attained since the 1980s and 1990s in the wealthy countries of Europe and in Japan, measured in years of national income, directly reflects the Marxian logic.

From Marx to Kuznets, or Apocalypse to Fairy Tale

Turning from the nineteenth-century analyses of Ricardo and Marx to the twentieth-century analyses of Simon Kuznets, we might say that economists’ no doubt overly developed taste for apocalyptic predictions gave way to a similarly excessive fondness for fairy tales, or at any rate happy endings. According to Kuznets’s theory, income inequality would automatically decrease in advanced phases of capitalist development, regardless of economic policy choices or other differences between countries, until eventually it stabilized at an acceptable level. Proposed in 1955, this was really a theory of the magical postwar years referred to in France as the “Trente Glorieuses,” the thirty glorious years from 1945 to 1975.9 For Kuznets, it was enough to be patient, and before long growth would benefit everyone. The philosophy of the moment was summed up in a single sentence: “Growth is a rising tide that lifts all boats.” A similar optimism can also be seen in Robert Solow’s 1956 analysis of the conditions necessary for an economy to achieve a “balanced growth path,” that is, a growth trajectory along which all variables—output, incomes, profits, wages, capital, asset prices, and so on—would progress at the same pace, so that every social group would benefit from growth to the same degree, with no major deviations from the norm.10 Kuznets’s position was thus diametrically opposed to the Ricardian and Marxist idea of an inegalitarian spiral and antithetical to the apocalyptic predictions of the nineteenth century.
In order to properly convey the considerable influence that Kuznets’s theory enjoyed in the 1980s and 1990s and to a certain extent still enjoys today, it is important to emphasize that it was the first theory of this sort to rely on a formidable statistical apparatus. It was not until the middle of the twentieth century, in fact, that the first historical series of income distribution statistics became available with the publication in 1953 of Kuznets’s monumental Shares of Upper Income Groups in Income and Savings. Kuznets’s series dealt with only one country (the United States) over a period of thirty-five years (1913–1948). It was nevertheless a major contribution, which drew on two sources of data totally unavailable to nineteenth-century authors: US federal income tax returns (which did not exist before the creation of the income tax in 1913) and Kuznets’s own estimates of US national income from a few years earlier. This was the very first attempt to measure social inequality on such an ambitious scale.11
It is important to realize that without these two complementary and indispensable datasets, it is simply impossible to measure inequality in the income distribution or to gauge its evolution over time. To be sure, the first attempts to estimate national income in Britain and France date back to the late seventeenth and early eighteenth century, and there would be many more such attempts over the course of the nineteenth century. But these were isolated estimates. It was not until the twentieth century, in the years between the two world wars, that the first yearly series of national income data were developed by economists such as Kuznets and John W. Kendrick in the United States, Arthur Bowley and Colin Clark in Britain, and L. Dugé de Bernonville in France. This type of data allows us to measure a country’s total income. In order to gauge the share of high incomes in national income, we also need statements of income. Such information became available when many countries adopted a progressive income tax around the time of World War I (1913 in the United States, 1914 in France, 1909 in Britain, 1922 in India, 1932 in Argentina).12
It is crucial to recognize that even where there is no income tax, there are still all sorts of statistics concerning whatever tax basis exists at a given point in time (for example, the distribution of the number of doors and windows by département in nineteenth-century France, which is not without interest), but these data tell us nothing about incomes. What is more, before the requirement to declare one’s income to the tax authorities was enacted in law, people were often unaware of the amount of their own income. The same is true of the corporate tax and wealth tax. Taxation is not only a way of requiring all citizens to contribute to the financing of public expenditures and projects and to distribute the tax burden as fairly as possible; it is also useful for establishing classifications and promoting knowledge as well as democratic transparency.
Malthus, Ricardo, Marx, and many others had been talking about inequalities for decades without citing any sources whatsoever. Now, for the first time, objective data were available.
In any event, the data that Kuznets collected allowed him to calculate the evolution of the share of each decile, as well as of the upper centiles, of the income hierarchy in total US national income. What did he find? He noted a sharp reduction in income inequality in the United States between 1913 and 1948. More specifically, at the beginning of this period, the upper decile of the income distribution (that is, the top 10 percent of US earners) claimed 45–50 percent of annual national income. By the late 1940s, the share of the top decile had decreased to roughly 30–35 percent of national income. This decrease of nearly 10 percentage points was considerable: for example, it was equal to half the income of the poorest 50 percent of Americans.13 The reduction of inequality was clear and incontrovertible. This was news of considerable importance, and it had an enormous impact on economic debate in the postwar era in both universities and international organizations.
Malthus, Ricardo, Marx, and many others had been talking about inequalities for decades without citing any sources whatsoever or any methods for comparing one era with another or deciding between competing hypotheses. Now, for the first time, objective data were available. Although the information was not perfect, it had the merit of existing. What is more, the work of compilation was extremely well documented: the weighty volume that Kuznets published in 1953 revealed his sources and methods in the most minute detail, so that every calculation could be reproduced. And besides that, Kuznets was the bearer of good news: inequality was shrinking.

The Kuznets Curve: Good News in the Midst of the Cold War

In fact, Kuznets himself was well aware that the compression of high US incomes between 1913 and 1948 was largely accidental. It stemmed in large part from multiple shocks triggered by the Great Depression and World War II and had little to do with any natural or automatic process. In his 1953 work, he analyzed his series in detail and warned readers not to make hasty generalizations. But in December 1954, at the Detroit meeting of the American Economic Association, of which he was president, he offered a far more optimistic interpretation of his results than he had given in 1953. It was this lecture, published in 1955 under the title “Economic Growth and Income Inequality,” that gave rise to the theory of the “Kuznets curve.”
Chart showing hypothetical Kuznets Curve
Though based on work of the utmost importance, the theory of the Kuznets curve was in large part a product of the Cold War.
According to this theory, inequality everywhere can be expected to follow a “bell curve.” In other words, it should first increase and then decrease over the course of industrialization and economic development. According to Kuznets, a first phase of naturally increasing inequality associated with the early stages of industrialization, which in the United States meant, broadly speaking, the nineteenth century, would be followed by a phase of sharply decreasing inequality, which in the United States allegedly began in the first half of the twentieth century.
Kuznets’s 1955 paper is enlightening. After reminding readers of all the reasons for interpreting the data cautiously and noting the obvious importance of exogenous shocks in the recent reduction of inequality in the United States, Kuznets suggests, almost innocently in passing, that the internal logic of economic development might also yield the same result, quite apart from any policy intervention or external shock. The idea was that inequalities increase in the early phases of industrialization, because only a minority is prepared to benefit from the new wealth that industrialization brings. Later, in more advanced phases of development, inequality automatically decreases as a larger and larger fraction of the population partakes of the fruits of economic growth.14
The “advanced phase” of industrial development is supposed to have begun toward the end of the nineteenth or the beginning of the twentieth century in the industrialized countries, and the reduction of inequality observed in the United States between 1913 and 1948 could therefore be portrayed as one instance of a more general phenomenon, which should theoretically reproduce itself everywhere, including underdeveloped countries then mired in postcolonial poverty. The data Kuznets had presented in his 1953 book suddenly became a powerful political weapon.15 He was well aware of the highly speculative nature of his theorizing.16 Nevertheless, by presenting such an optimistic theory in the context of a “presidential address” to the main professional association of US economists, an audience that was inclined to believe and disseminate the good news delivered by their prestigious leader, he knew that he would wield considerable influence: thus the “Kuznets curve” was born. In order to make sure that everyone understood what was at stake, he took care to remind his listeners that the intent of his optimistic predictions was quite simply to maintain the underdeveloped countries “within the orbit of the free world.”17 In large part, then, the theory of the Kuznets curve was a product of the Cold War.
To avoid any misunderstanding, let me say that Kuznets’s work in establishing the first US national accounts data and the first historical series of inequality measures was of the utmost importance, and it is clear from reading his books (as opposed to his papers) that he shared the true scientific ethic. In addition, the high growth rates observed in all the developed countries in the post–World War II period were a phenomenon of great significance, as was the still more significant fact that all social groups shared in the fruits of growth. It is quite understandable that the Trente Glorieuses fostered a certain degree of optimism and that the apocalyptic predictions of the nineteenth century concerning the distribution of wealth forfeited some of their popularity.
Nevertheless, the magical Kuznets curve theory was formulated in large part for the wrong reasons, and its empirical underpinnings were extremely fragile. The sharp reduction in income inequality that we observe in almost all the rich countries between 1914 and 1945 was due above all to the world wars and the violent economic and political shocks they entailed (especially for people with large fortunes). It had little to do with the tranquil process of intersectoral mobility described by Kuznets.

Putting the Distributional Question Back at the Heart of Economic Analysis

The question is important, and not just for historical reasons. Since the 1970s, income inequality has increased significantly in the rich countries, especially the United States, where the concentration of income in the first decade of the twenty-first century regained—indeed, slightly exceeded—the level attained in the second decade of the previous century. It is therefore crucial to understand clearly why and how inequality decreased in the interim. To be sure, the very rapid growth of poor and emerging countries, especially China, may well prove to be a potent force for reducing inequalities at the global level, just as the growth of the rich countries did during the period 1945–1975. But this process has generated deep anxiety in the emerging countries and even deeper anxiety in the rich countries. Furthermore, the impressive disequilibria observed in recent decades in the financial, oil, and real estate markets have naturally aroused doubts as to the inevitability of the “balanced growth path” described by Solow and Kuznets, according to whom all key economic variables are supposed to move at the same pace. Will the world in 2050 or 2100 be owned by traders, top managers, and the superrich, or will it belong to the oil-producing countries or the Bank of China? Or perhaps it will be owned by the tax havens in which many of these actors will have sought refuge. It would be absurd not to raise the question of who will own what and simply to assume from the outset that growth is naturally “balanced” in the long run.
It is long since past the time when we should have put the question of inequality back at the center of economic analysis and begun asking questions first raised in the nineteenth century.
In a way, we are in the same position at the beginning of the twenty-first century as our forebears were in the early nineteenth century: we are witnessing impressive changes in economies around the world, and it is very difficult to know how extensive they will turn out to be or what the global distribution of wealth, both within and between countries, will look like several decades from now. The economists of the nineteenth century deserve immense credit for placing the distributional question at the heart of economic analysis and for seeking to study long-term trends. Their answers were not always satisfactory, but at least they were asking the right questions. There is no fundamental reason why we should believe that growth is automatically balanced. It is long since past the time when we should have put the question of inequality back at the center of economic analysis and begun asking questions first raised in the nineteenth century. For far too long, economists have neglected the distribution of wealth, partly because of Kuznets’s optimistic conclusions and partly because of the profession’s undue enthusiasm for simplistic mathematical models based on so-called representative agents.18 If the question of inequality is again to become central, we must begin by gathering as extensive as possible a set of historical data for the purpose of understanding past and present trends. For it is by patiently establishing facts and patterns and then comparing different countries that we can hope to identify the mechanisms at work and gain a clearer idea of the future.
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Notes


1. The English economist Thomas Malthus (1766–1834) is considered to be one of the most influential members of the “classical” school, along with Adam Smith (1723–1790) and David Ricardo (1772–1823). [back]

2. There is of course a more optimistic school of liberals: Adam Smith seems to belong to it, and in fact he never really considered the possibility that the distribution of wealth might grow more unequal over the long run. The same is true of Jean-Baptiste Say (1767–1832), who also believed in natural harmony. [back]

3. The other possibility is to increase supply of the scarce good, for example by finding new oil deposits (or new sources of energy, if possible cleaner than oil), or by moving toward a more dense urban environment (by constructing high-rise housing, for example), which raises other difficulties. In any case, this, too, can take decades to accomplish. [back]

4. Friedrich Engels (1820–1895), who had direct experience of his subject, would become the friend and collaborator of the German philosopher and economist Karl Marx (1818–1883). He settled in Manchester in 1842, where he managed a factory owned by his father. [back]

5. The historian Robert Allen recently proposed to call this long period of wage stagnation “Engels’ pause.” See Allen, “Engels’ Pause: A Pessimist’s Guide to the British Industrial Revolution,” Oxford University Department of Economics Working Papers 315 (2007). See also “Engels’ Pause: Technical Change, Capital Accumulation, and Inequality in the British Industrial Revolution,” in Explorations in Economic History 46, no. 4 (October 2009): 418–35. [back]

6. The opening passage continues: “All the powers of old Europe have entered into a holy alliance to exorcise this specter: Pope and Tsar, Metternich and Guizot, French Radicals and German police-spies.” No doubt Marx’s literary talent partially accounts for his immense influence. [back]

7. In 1847 Marx published The Misery of Philosophy, in which he mocked Proudhon’s Philosophy of Misery, which was published a few years earlier. [back]

8. In Chapter 6 I return to the theme of Marx’s use of statistics. To summarize: he occasionally sought to make use of the best available statistics of the day (which were better than the statistics available to Malthus and Ricardo but still quite rudimentary), but he usually did so in a rather impressionistic way and without always establishing a clear connection to his theoretical argument. [back]

9. Simon Kuznets, “Economic Growth and Income Inequality,” American Economic Review 45, no. 1 (1955): 1–28. [back]

10. Robert Solow, “A Contribution to the Theory of Economic Growth,” Quarterly Journal of Economics 70, no. 1 (February 1956): 65–94. [back]

11. See Simon Kuznets, Shares of Upper Income Groups in Income and Savings (Cambridge, MA: National Bureau of Economic Research, 1953). Kuznets was an American economist, born in Ukraine in 1901, who settled in the United States in 1922 and became a professor at Harvard after studying at Columbia University. He died in 1985. He was the first person to study the national accounts of the United States and the first to publish historical data on inequality. [back]

12. Because it is often the case that only a portion of the population is required to file income tax returns, we also need national accounts in order to measure total income. [back]

13. Put differently, the middle and working classes, defined as the poorest 90 percent of the US population, saw their share of national income increase from 50–55 percent in the 1910s and 1920s to 65–70 percent in the late 1940s. [back]

14. See Kuznets, Shares of Upper Income Groups, 12–18. The Kuznets curve is sometimes referred to as “the inverted-U curve.” Specifically, Kuznets suggests that growing numbers of workers move from the poor agricultural sector into the rich industrial sector. At first, only a minority benefits from the wealth of the industrial sector, hence inequality increases. But eventually everyone benefits, so inequality decreases. It should be obvious that this highly stylized mechanism can be generalized. For example, labor can be transferred between industrial sectors or between jobs that are more or less well paid. [back]

15. It is interesting to note that Kuznets had no data to demonstrate the increase of inequality in the nineteenth century, but it seemed obvious to him (as to most observers) that such an increase had occurred. [back]

16. As Kuznets himself put it: “This is perhaps 5 percent empirical information and 95 percent speculation, some of it possibly tainted by wishful thinking.” See Kuznets, Shares of Upper Income Groups, 24–26. [back]

17. “The future prospect of underdeveloped countries within the orbit of the free world” (28). [back]

18. In these representative-agent models, which have become ubiquitous in economic teaching and research since the 1960s, one assumes from the outset that each agent receives the same wage, is endowed with the same wealth, and enjoys the same sources of income, so that growth proportionately benefits all social groups by definition. Such a simplification of reality may be justified for the study of certain very specific problems but clearly limits the set of economic questions one can ask. [back]
Electronically reproduced from Capital in the Twenty-First Century, by Thomas Piketty, Cambridge, Mass.: Harvard University Press.
Copyright © 2014 by the President and Fellows of Harvard College. All rights reserved.
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