“Capital in the Twenty-First Century” book review
The contents of this book can be broken down into two different piles.
The first pile contains the author’s analysis of wealth and income growth and distribution from the end of 18th century to 2013 when the book came out. This part is fascinating and everyone should read it. It answers all kinds of questions that I never thought to ask: What is the ratio between total wealth and income and what does it depend on? What is the relation between public and private wealth? What was the evolution of the income from labour and from capital throughout history? What did it depend on? How did Jane Austin’s characters earn their income? How did the tax systems evolve and how it affected things like inequality? What caused the drastic changes in inequality during 20th century? This book gives a lot of economic details behind the more general books like Enlightenment Now by Steven Pincker.
The second pile is the author’s conclusions and policy recommendations. These are not indisputable, but are still very interesting to consider. One of his potentially more controversial recommendations is to introduce a substantial global progressive tax on all wealth/capital, from real estate to stocks to any other financial assests. The tax would be negligeable below the first million, and would rise steeply up to around 5% for the highest bracket. The idea is interesting, though I am not sure I fully agree with the details of his proposal: the rates that he is proposing seem a bit to high to me, and might negatively affect business climate (in my couch expert’s opinion).
There are a few things in Piketty’s approach that I simply don’t really understand. If you do, please comment. One is that he is treating the income from capital as if it is always positive, which is definitely not true. Unlike your salary, which can’t be negative, your capital assets can decrease in value, bringing losses instead of gains. In times of financial crises it happens across all economy. How should we tax the capital income when it’s negative? Should we reimburse part of the losses? (In Switzerland, where I live, capital gain is generally not taxed, but it might be if you are considered a trader. And in that case something weird is happening with your taxes when your income is negative — either you get reimbursed, or your losses are converted into some tax deductions… Fortunately I never needed to find out exactly).
Another thing that confuses me is that Piketty treats the decrease in income or wealth of top quantiles as a good thing, even without any benefits for the rest of the society. His reasoning is that it reduces inequality. At some point in the book he says something like “let’s tax the top 0.1% at a higher rate, it will not bring in too much taxes, but it will reduce the wealth of the top, and thus will reduce the inequality” (it’s not a direct quote, but I hope I got the meaning correctly). For me this poses some serious problems: a) it reduces the total utility, because you are reducing the share of some slice of population without gaining too much across the board (I mean, maybe you are gaining on average, but Piketty never gives any analyses to support it), b) it reduces the chances to become wealthy for everyone, c) it reduces the insentives to strive to become wealthy, create your own business etc.
Regarding the last point (high compensation as insentives) the author also writes extensively in the chapters about labour income distribution. Piketty considers high compensation of executives as unnecessary and unethical. At some point he writes something like this (and again I’m quoting from memory because I’m a lazy son of bitch): “Ideally, the pay for an employee should reflect their marginal productivity. It’s questionable whether the compensation for top executives is on par with what they are bringing to the company. We could potentially set some experiments to see how the business would change if you replaced the CEO by a random employee, but such experiments would be to risky to perform.” I mean, yeah. I see a clear connection between this risk and the pay for the executives. From the point of view of the shareholder: “I am not sure how much does this CEO bring in, but the company is doing well, and I am prepared to pay him 0.1% of revenue to keep the things as they are.” (Real numbers: Google CEO Sundar Pichai earns about 200m per year, compared to 30b in Google’s revenue.)
Further than that, it’s rather obvious that the company’s capitalization may strongly depend on some particular employees like CFO or the leader of a particularly important project. As a shareholder you are vitally interested to bring in absolutely best possible specialists to these positions. At the same time, it is generally accepted that the life satisfaction rises roughly logarithmically with the person’s income, so small difference in pay may not be enough to gain the best employees. I know for myself that I will not consider moving to another country for a pay increase of +10%. But I will consider moving for a 2x increase in income (I should really go and interview with Netflix). Following this logic, if you suspect that the absolutely best CFO may bring 5% higher profits to your company than an average one, it makes total sense to pay huge premium (up to those 5%) to get the absolute best CFO that you can reach.
To be fair, Piketty points out one effect that support his view that the executives remuneration is unfair: the fact that executives seem to be rewarded more for luck than for skill. Meaning, the executives’ pay rises more when the whole market segment is on the rise, compared to a situation when a single firm does better than its competitors. Still it seems highly implausible to me that the marginal productivity of a CEO is just a few times higher than that of an average worker.
This review turned out a bit longer than I expected. This can probably attest to the fact that this book is good at provoking thought even if you don’t agree with the author’s position on policy. Again, I highly recommend it to anyone who is even remotely interested in economy.
