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Capitalist Apocalypse!You may have heard the gossip and the waves that the book "Capital in the Twenty First Century" by Thomas Piketty is making. Every socialist "out there" is up in arms. Every bureaucrat is sniffing around. Every politician is salivating.

But what is the fuzz all about?

THE BOOK

Thomas Piketty is a French economist with close ties to socialist French thinkers and politicians. So, it is safe to say that his view is tainted to the left. He gathered a respectable amount of statistical information, reached a few conclusions and published a book. You don't have to read the book (although it is quite readable). Additionally, if you have the stamina and time, he made all his data available in his website.

His main thesis is quite simple. According to his data, wealth concentrated in just a few hands grows faster than the economy. If this is true, this would inevitably mean that a few rich people keep getting richer and everybody else, poorer.

In other words, the inequality gap keeps getting larger. His solution? Tax everybody harder but particularly rich people the hardest (80%? 90%?) and then re-distribute this riches for all to enjoy.

If you look at the mathematics and data from the book, they can get fairly complex, fairly rapidly. This means that they get intractable fairly quickly. We won't be commenting about this facet in this post, simply because we don't have the time or the stamina to write about all the elements that are at least suspect in Piketty's book. We leave this task to scholars whose job is precisely that one; to test a theory to uncover its value or non-value. If you are interested, one such article "Thomas Piketty's Improbable Data" can be found in Mises website. There are many others "out there", you will just have to Google for them.

INEQUALITY

What we are interested in, is the concept of "inequality". This concept has been paraded by politicians ever since Marx wrote his underwhelming masterpiece "Das Kapital" (The Capital). The concept is quite simple; rich people have a lot and poor people do not. Statistically speaking, it is possible to calculate the difference and that's inequality in a nutshell.

According to pretty much every politician and socialist out there, inequality is a "bad" thing. But is it?

Inequality in managed markets

To see what's going on in a managed economy, head to the article Austrian Economics In Picture.  . In there you will see the net economic effects of all types or political and economic theories. Then, check the article Austrian Economics In Pictures - Corollary. In there you will find an attempt to make wealth "equal" in the manner in which socialists would define it. You will also notice that this is not physically possible.

In a few pictures, this is reality:

Reality Wealth

Reality Wealth Distribution Population

And this is what socialists want

Socialist Goal

Socialist Goal Distribution

And this is what socialists get

Socialist Resutl Wealth

Socialist Result Distribution

In other words, socialists look at the distribution curve and see a vast gap between "poor" and "rich" people. They try to manipulate the market or even control it, in order to establish a more "equitable" distribution of wealth. However, what they inevitably end up achieving is that everybody's wealth decreases by quite a lot, in an equitable fashion. In other words, they do accomplish what they set themselves up to accomplish, unfortunately everybody is far worse because of it!

The inequality mystery

This is a remarkable effect that requires some explanation. The explanation is simple.

Socialists achieve equitability by taxing rich people and companies and hence preventing all that capital to return to the market and increase. In other words, they are slowing down the creation of wealth.

Communists achieve equitability by controlling the entire economy, but in so doing they are preventing any possible economic calculation (see Communists Can't Count). Because of this, the allocation of resources is highly ineffective, which leads to a widespread economic slowdown.

In other words, the cost of equality is a generalized decrease in wealth. Furthermore, the more equal a society is (in terms of wealth), the lower the wealth it has!

This can be seen in the following picture, where is obvious that the "pie" has shrunk dramatically and therefore everybody (except the elite) becomes poor!

Socialist Result Wealth Diminished

INEQUALITY IN FREE MARKETS

As we have explained in the article Inequality Is The Source Of Wealth, it is inequality what drives higher standards of living. Inequality means an efficient allocation of resources which means maximum satisfaction through choices and quantities of goods and services.

Free Market Wealth

Free Market Distribution

As a consequence of this, free markets typically do not alter inequality, they just increase dramatically the size of the pie, hence making everybody wealthier.

THE EQUALITY / INEQUALITY DEBATE

The debate can be summarized as follows:

In a managed economy it is possible to achieve large amounts of economic equality, but at the price of everybody's quality of life. The opposite is also true. In a free market it is impossible to purposely alter inequality levels, but the benefit of retaining this inequality is that everybody is far richer.

The problem in visualizing this debate is that socialists always speak in relative terms. But the economy does not work in relative terms. You cannot go to a supermarket and purchase goods with relative currency. The cashier won't accept a ratio of 1:1 as payment, they want actual currency!

The size of the economy matters. By making it relative, socialists make it possible to compare one economy or one country with another; the problem is that this comparison is meaningless!

We might as well be using the inequality of rain precipitation or the inequality of population heights; the result will be the same: meaningless.

CONCLUSION

Piketty built a fence that separates socialists/communists from free market advocates. He built this fence with dubious data but even taking this data at face value, suppressing disbelief, and assuming that inequality is indeed a problem, the solution (taxation) is counterproductive!

We have seen above how any attempt to manage the market towards equity, ends up lowering standards of living. Higher taxation will indeed produce a higher equity but at a much, much lower standard of living!

Piketty's book is to be doubt twice. The first reason is because of its suspicious data and the second is because of the incongruent solution he proposes.

We can only hope we manage to provide some illumination into the dark chasms of socialist and monetarist economic thinking. It is your decision now, whether you choose to believe us or them.

Note: please see the Glossary if you are unfamiliar with certain words.

6 Comments | Add yours
  • "free markets typically do not alter inequality, they just increase dramatically the size of the pie, hence making everybody wealthier."

    There is some truth to this, but if fiscal policy allows too much wealth to accumulate into the 1% wealth bracket, then the pie shrinks, because the 99% have no money to save, to spend. It is (obviously) not an infinite growth equation. There is a "maxima" point of wealth ratio vs. pie size. Our job is to find those maximizing ratios.

    It's historically clear that, when a 1% wealth class acquires too much of a nation's wealth ratio, the lower and middle classes indeed suffer. We've seen this in France, when the aristocratic class had assumed over 50% of national wealth. It left the 99% classes decimated and impoverished, which ignited revolution.

    We've seen the same effect in 1920-1930 USA. When the top marginal tax rate was dropped dramatically, the 1% wealthy were given a relatively free tax pass. The total pie grew a bit, but not in proportion to 1% wealth, which by 1929 had assumed 45% ownership of America. Such imbalance of wealth triggered (in part) the Great Depression. Simply, the 99% has little money to spend or save.

    We're seeing the same effect today. Post WW2, high marginal tax rates kept 1% wealth accumulation to a healthy level. By 1976, the 1% owned 20% of America. Very healthy. In fact, many economists call 1945-1980 the Golden Age of American socioeconomics. All socioeconomic classes flourished: new business creation multiplied wildly, and multimillionaires were created daily. The highest taxes on highest incomes did NOT prevent people from getting massively rich. Progressive fiscal policy created near-perfect historic ratios of national class-wealth at ALL socioeconomic levels -- perhaps the very best we can expect in a shared economy. We created a very big pie, and everyone shared it in a healthy distribution. In fact, during this period, America's poor were the richest poor in world history.

    But in the 1980-2014 period, trickle down fiscal policy has again allowed the 1% wealth class to accumulate a far larger percentage of the "wealth pie", but (again) the pie has not grown in proportion to 1% wealth accumulation. The middle and lower classes, the 99%, have not shared proportionately in growth. Not even close. The 99% has seen their share of wealth fall from 80% (1976) to 62% today, and it continues to fall. At current trend, by 2025, the 99% in America will possess just 56% of the wealth pie, which is the same unhealthy wealth-ratio imbalance we experienced in 1929.

    The U.S. pie has grown, but not a rate sufficient to keep all socioeconomic classes in parity. The 1% has grown massively richer, but the America poor are no longer the "richest poor" on the planet. Far from it. The American lower middle classes are no longer the healthiest on the planet. And at current trend, the American upper middle classes (20%) will no longer be the healthiest on the planet. Reason? We've overshot sustainable and healthy 1% / 99% wealth ratios. We must return to a fiscal policy that grows the pie, but not at the expense of maximal 99% health.

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  • Carl,
    First and foremost, thank you kindly for taking the time to develop your point of view. Unfortunately, we could not disagree more.
    With all due respect, we believe that you have several methodological errors, which are:

    1 - You are assuming that we are speaking about the US. We are most assuredly not. We are internationalists looking at the big, world-wide picture. The US represents about 0.5% of all countries in the world. A tiny sample indeed. As such, the US cannot be considered meaningful in this matter.

    2 - Your key error can be found in your very first sentence where you make reference to "fiscal policy". You are assuming that current, socialistic and managed markets are "free markets". They are most assuredly not. Free markets mean absolutely, positively, definitively, unquestionable, non-interfered free markets. By definition this means no government intervention of any kind at any level whatsoever. Plain and simple: it is the situation where either the government does not exist or it has shut down all avenues of market manipulation and this includes (especially) the Central Bank. For a lengthy (and probably longwinded explanation, please see our series "Introducing Mr. Free Market" at Introducing Mr. Free Market). In political terms, when we refer to free markets we are referring to Market Anarchism (which is the opposite from Social Anarchism).

    3 - Market manipulation is the hallmark of socialistic policies. If you are interested as to how the US fares in this area, please feel free to visit our Projects section, specifically our Efficient Socialist Scale Type I (ESSI) index at ESSI. But be warned, the index is not kind at all to US (all data was obtained from the International Monetary Fund, this is, from the horse's mouth).

    4 - The reason why inequality is rising is precisely because markets are not free. Managed markets are the hallmark of socialism and give rise to crony-capitalism. In practice this means exactly what you have observed; a small group of people benefits enormously due to their proximity to government powers. We call this group the Power Elite, but it goes by many others (e.g. Special Interest Groups). Proximity to government enable this group to obtain advantages that would otherwise not be able to obtain in a truly free market. These are artificial advantages such as artificial (or legislated) monopolies, rules and regulations, subsidies, etc. These advantages have a double negative effect on markets. On one hand they depress them hence shrinking the pie but, more importantly, they have the effect of wealth transfer from the poor people to the rich ones. A Hood Robin (or reverse Robin Hood ) effect. Again, there is a lengthy comparison in our series Austrian Economics In Pictures (at Austrian Economics In Pictures) and particularly its Corollary. As a matter of fact, we would be surprised in the extreme if inequality would not be increasing in the world, considering the level of socialism (and hence cronyism) that is rampant throughout the world (we again refer you to our ESSI index).

    5 - There are no fixed ratios of sustainability. Again, this is a socialist concept. Socialism sees the world as a static pie. This is far from the only (or best) option. In a free market the pie is always increasing and hence the ratios are always changing. Trying to reach a specific ratio, by any means, will only have the effect of shrinking the pie. Free markets are optimized systems already operating at the maximum wealth production capacity. Any interference necessarily means that markets will operate at a sub-optimal level. This necessarily means less goods and services for everyone which means lower standards of living.

    6 - In a truly free market there is only one way to make money: by satisfying customer's needs. In a managed market, there is a second option: get the government to bias market conditions in your favour. We prefer the first one, a level playing field where the ultimate judge, jury and executioner is the market itself; this is, you, us and everybody else, where there are no second chances, reprieves or appeals.

    In summary, no, we disagree vehemently.

    Again, thank you kindly for expressing your opinions.

    Ed1

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  • Ed1,

    OK, you make sense, but only to a point. All governments must tax income in order to provide necessary services to their nation: defense, police, public education, roads, bridges, infrastructure, prisons, food safety and agricultural oversight, patents and trademarks, consumer safety, professional licensing boards, sewers, water treatment, VA benefits, immigration controls and mgmt, diplomatic affairs, national parks, BLM, native american affairs, state level services, county services, local services (etc....).

    Tax codes can be written to confiscate wealth from any socioeconomic group in any percentage. It's well established in economics that the percentage of tax versus income class versus type of income, will, over time, aggregate national wealth in different proportions among different socioeconomic groups. Are you saying that government taxation is wrong? Are you saying that fiscal policy (tax code) has no effect on relative class wealth aggregation? I would need to know more about how you feel about government taxation and tax codes before I continue.

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  • Carl,

    We refer to ourselves as Absolute Austro-Libertarians, which is a mouthful. This site was our little attempt at demonstrating that a system (you could call it political for lack of a better name) can be devised based on two principles:
    1 - Absolute lack of government
    2 - Minimum coexistence rules based on a Master Contract
    Having said that, this is simply an experiment which we believe was successful. Such a system is possible alas we are not attempting to sell it as "the" system. We believe that political experimentation is the way to go and we do encourage everybody to experiment. However, our big picture is simple: we dislike governments of any kind and at any level. We are big dis-believers in the necessity of governments. In this sense we subscribe to Austrian Economics.

    Having clarified this point, we then logically do not see the need for any taxation at any level whatsoever. This site is chock full of examples and articles exploring taxation in further detail (if you use the search function, just type "taxation"), but the short answer is that taxation is theft pure and simple. In a true free market the wealth of all participants grow. Each person is then fully capable of determining (and paying) for their true needs. These needs can and are easily satisfied by the market without the need for any government intervention. We would like to point out that as a matter of historical fact, all the goods and services (or their historical ancestors) that you mention were once fully provided by the free market on a for-profit basis. Even today, most governments on earth do not manufacture anything; they all subcontract to private enterprises. In a nutshell, governments are simply highly inefficient middle-man with the biggest protection racket on earth.

    It is true that tax laws are fully arbitrary and can be written to extract wealth by different means (including inflation) from any socioeconomic layer politicians may choose. It is also true that this wealth can be re-distributed in any fashion that governments may choose. As such, it is true that by so doing the net effect is indeed the decrease of inequality. The problem with this process is that at a minimum it introduces gigantic distortions in the market. This is so because it re-directs savings (i.e. capital) into expenditures (i.e. consumer goods) that are selected by the government and not the people. This sends gigantic signals into the market to produce "A" (gov. decision) versus "B" (people's choice). As a consequence less and less people's needs are satisfied and everybody's standard of living decreases. At worse, savings are removed from the market hence depressing market activity as per Say's law. Artificially increasing demand does nothing to physically create supply.

    If there is no taxation then Say's law operates at full capacity, said capacity being the natural (i.e. people's) rate of savings. This stimulates true market development which in turn increases everybody's standard of living. If we couple this with deflation, then not only standards of living increase all the time, but purchase power of real money also increases all the time.

    Ed1

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  • "If there is no taxation then Say's law operates at full capacity, said capacity being the natural (i.e. people's) rate of savings. This stimulates true market development which in turn increases everybody's standard of living."

    I agree that minimal government is the ideal, but in practice "government" and "people" often become the same thing. For simplicity sake, take a community in isolation. Say 10,000 people - a small city that forms very quickly. All the people in this new city decide not to collect taxes. But... they quickly realize that they need roads, and bridges, commons maintenance, sewers, and fire depts, and police, jails, schools, and electricity, water, etc.. They realize as a community that it's far more efficient and productive to centralize the goods and services they ALL need and share. Whether they select a private company to provide a service, or build it in common as a true community effort, it must be funded by the entire community, else they devolve into a kind of contemporary feudal system. So each person contributes to the common fund for the common needs. The birth of community taxation.

    Your theory is a great ideal, but I fail to see how any community can avoid a common fund for common needs, AKA taxes. Can you explain how your theory works in real community?

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  • Sure, although we'll be brief. To begin with, it is not a theory. All towns, cities and indeed human settlements began as an association of free people. These people built roads, bridges and many other facilities without the need for governments or taxation at all. Take a look at any modern service, from telephone to electricity, sewers to hospitals, roads to school and so forth and if you go sufficiently back in time you will notice that they were all private. Furthermore, they were working just fine. If you live in US, take a look at literacy figures, for example. Up to WWII most people in US were literate and yet all schools were private. After WWII and the cooption of the entire educational system by the government, literacy began to drop. What does that tell you? There is no need to force cooperation; in the past it worked OK and there is no reason to believe it won't work today. They did not de-volve or e-volve into a feudal system. The feudal system was imposed on them by force. Study history and will notice this to be true. Many societies in the past (even far past) were quite close to what we would call today market anarchism. The concept "for the good of the community" is only valid when standards of living are decreasing or the government is stealing people's money through taxation (i.e. artificial increase of scarcity). Both events are government-driven. In a free market standards of living go up because manufacturing goes up while to amount of money remains the same. Again, this is not a theory, it was reality up to roughly 1850s (depending of the country). This ensures that almost everybody has sufficient to take care of their own. Sure, there will always be people that will have less, but so it is today. We prefer to have less than everybody else providing that everything else is cheaper than have more and depend upon the charity of politicians.
    The problem with limited government is that there is no practical way to ensure that a government won't expand beyond certain point. The biggest experiment in this area was the US, and it failed miserably. If you are interested in knowing how far the US drifted from "limited government", try to get the videos of the Constitution Class taught by Michael Badnarik. They are still floating in the Internet (as torrents), and maybe in Youtube (not sure). There is a fair amount of information in this regard in this site, but it is mixed with practical commentary and implementations. The core is in the "Lessons", which are also listed in a special index accessible through the Main menu under Lessons. Feel free to ignore minor inconsistencies and glaring grammatical errors (all people writing for this site are not native English speakers).
    We are not trying to sell paradise, just a better system, however imperfect it may be. This system is not rooted in a theory, but in the past. We are simply advocating for a return to what worked in the past… with a twist. Tomorrow, there will be something else.

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