Wealth Inequality, Thomas Piketty and Land Reform: Part 1

Some things that I’m excited about:

  1. Thomas Piketty is delivering the 13th Annual Nelson Mandela lecture tomorrow; and
  2. More importantly, I have a ticket.

There have been some preliminary lectures and interviews leading up to that – so according to Moneyweb, I should expect to hear something along the lines of:

“South Africa is very unequal and did not become more equal after the end of apartheid, at least not as much as some people would have hoped. In some way, it has even become more unequal if we take the concentration of incomes in the top groups of the people.”

…followed by…

“Many successful development experiences in Europe and also in Asia did at some point in their trajectory use land reform and other forms of direct redistribution of property much more than South Africa did. You never had this kind of big phase of redistribution of property and probably that explains why the legacy of apartheid is still very much there in terms of inequality.”

Juicy stuff!

Andile Mngxitama must be wetting himself (that’s a link to his recent interview on the ZAR podcast where as a white person I was called a land thief numerous times – even though I own no land).

That said, I’m being unnecessarily facetious here. I do agree that there is validity in saying that people need to have skin in the game, otherwise there is a temptation to vote based on patronage, which creates all kinds of bad incentives for policymakers.

Anyway – I’d like to hear what Mr Piketty says in person before I start getting free and frisky with the critiques. So in the interim, here is the long-ish summary of his big book “Capital in the Twenty First Century” that I posted last year:

Das Kapital, Yah.

Thomas Piketty is a French economist at the Paris School of Economics, and his book Le Capital au XXIe siècle has been released in English as “Capital in the Twenty-First Century”. People are referring to it as Karl Marx: the sequel. Even Paul Krugman is excited:

“Piketty has written a truly superb book. It’s a work that melds grand historical sweep – when was the last time you heard an economist invoke Jane Austen and Balzac? – with painstaking data analysis… This is a book that will change both the way we think about society and the way we do economics.”

The Book In A Nutshell

  • Orthodox Economics has capitalism all wrong.
  • We’re not moving forward into a world of more equality, we’re moving backward into a world of dynastic wealth.
  • And tbh, in the long run, no one gets rich by earning a salary – they get rich by earning passive income off their investments.

For most of us, each day is spent going to work and earning a salary. Then, on the 25th of the month, you get a message on your cellphone to tell you that money has landed in your account. Is this the path to riches though?

According to Mr Piketty, that answer changes depending on the time period in which you’re working. Because if you returned to the 18th and 19th centuries, the answer was no. And he begins by looking at the socio-economic structures you find lurking in the background of the plot-lines in Austen and Balzac.

In Honoré de Balzac’s book Le Père Goriot, the young Eugène de Rastignac is a law clerk who has moved to Paris in pursuit of wealth. The criminal agitator Vautrin sits him down and explains how rising through the professional ranks might make him better-off, but if he really wanted to be wealthy, he’d have to marry rich. He then identifies an eligible heiress who he thinks Rastignac should marry, and offers to help “remove” any obstacles (specifically, her brother) to clear the way to her father’s inheritance.

When Piketty and his team went and laboriously assembled the data from that period, they found that anecdote to be more than just anecdotal. Wealth was focused in the hands of the owners of capital, and the only way to step out of your income bracket really was to marry into money.

What Happened in the 20th Century

In the early 20th Century, global society went through two World Wars and a depression.

Some quotes from John Cassidy’s article in the New Yorker:

In Europe, two World Wars and the progressive tax policies that were needed to finance them did enormous damage to the old estates and great fortunes: many rich people, after paying their income and inheritance taxes, didn’t have enough money left to replenish their capital. During the postwar era, inflation ate away at their savings. Meanwhile, labor-friendly laws enabled workers to bargain for higher wages, which raised the proportion of income that labor received. …

In the United States, the story was less dramatic but broadly similar. The Great Depression wiped out a lot of dynastic wealth, and it also led to a policy revolution. During the nineteen-thirties and forties, Piketty reminds us, Roosevelt raised the top rate of income tax to more than ninety per cent and the tax on large estates to more than seventy per cent. The federal government set minimum wages in many industries, and it encouraged the growth of trade unions.

The income of the top 1% dropped dramatically. And that wasn’t restricted to Europe and the United States – the pattern was mirrored across the world. Some graphs that I found in a second New Yorker article:

income inequality in Anglo-saxon countries

income inequality in emerging countries

With these trends in play, economists in the mid-50s began to view inequality as resolved – or, rather, as something that diminished as a country advanced. And so economists dealt with this new advance in the world by developing a graph for it. It was famously hypothesised by Simon Kuznets in the 1950s and 1960s.

The Kuznets Curve


The explanation goes something like this:

  • inequality rises during the early stages of industrialisation (as some entrepreneurs do better than others)
  • but then incomes start to converge (as competitive forces allow economic agents to argue for more equal portions of the pie)
  • and income inequality falls as living standards rise

And empirically speaking, this was happening. Until the 70s, when the inverted-U-curve started to invert back to being a plain old U.

updated kuznets curve

Piketty’s argument is that the Kuznets curve was actually just an anomaly. His words:

A concatenation of circumstances…created a historically unprecedented situation, which lasted for nearly a century. … All signs are, however, that it is about to end.

In Piketty’s interpretation of economic history, most of the 20th century was just an anomaly – a situation where the growth in wages was higher than the returns offered by capital.

Or, in layman: an unusual period of time when you could get richer off your salary than you could off your investments #sunshine #makehay #rainacomin

The Piketty Interpretation

The past century has lulled us into believing that the key mechanism for inequality is salaries and wages. And if you could just get into the right industry at the right time, then you’d get wealthy off your bonuses and salary increases. Oh – and capital is just this amorphous factor of production.

But even intuitively, this seems false. We use the phrases in conversation all the time: “the rich keep getting richer”, “it takes money to make money”, etc. And we look with envy at the property tycoons and the business-owners and the holders of mineral-rights that make money without having to work for it.

Economists however, being the optimists (and empiricists) that they are, assumed that we’d all moved on and stepped forward into an eternal golden age, where everyone was getting richer and the income gap was closing. And for most of the 20th century, the gap was actually closing.

But (according to Piketty), we weren’t looking at the math on a broad-enough scale, and we should have been paying more attention to the difference between the return on capital and the growth in economic output.

During the booming economic growth of the 20th Century, some of the economic expansion was passed on to the owners of capital – but a large portion of it accrued to the labour force (through increased employment and higher wages, etc), especially in countries where progressive taxation and redistribution programs reduced the after-tax return on capital and increased the after-tax return to labour.

But in the 1970s, the world began to liberalise, and some of the more stringent restrictions on capital accumulated were relaxed. At the same time, technological advancement meant that it became easier to substitute labour with capital investment (why have a team of accountants to update manual ledgers when a single accountant can do the same amount of work with a software package?). So capital started to accumulate, rapidly.

Then, in the last five years, we saw global economic output start to drop off. And while the wealthy have recovered from the financial crisis, the rest of society has not. This is because labour is losing on two fronts:

  1. As economic growth slows, so there is less room to argue in favour of higher wages – if anything, there is barely room to argue in favour of continuing employment; and
  2. There is more substitution of labour with capital.

“The Central Contradiction of Capitalism”

annual returns of gdp capital

What Piketty calls “the central contradiction of capitalism” is his assertion that inequality is not a distortion but actually a feature of capitalism, and that inequality rises when the rate of return to capital is higher than the economy’s rate of growth. If you look at his predictions above, you’ll see that’s where he thinks we’re headed.

Piketty argues that what we’re witnessing is the return to the “patrimonial capitalism” of Austen and Balzac, where wealth is mostly inherited, and society is ruled by oligarchs.

Which just goes to show that it pays to marry rich.

Rolling Alpha posts about finance, economics, and sometimes stuff that is only quite loosely related. Follow me on Twitter @RollingAlpha, or like my page on Facebook at www.facebook.com/rollingalpha. Or both.

Now You Hold It, Now You Don’t

Note: I wrote this post back in 2012. I’ve refreshed it here because Hillary Clinton seems to have adopted this particular issue as her main bone of contention with Wall Street. Fun times!

Some graphs showing how long we tend to own a particular share:

Some potential conclusions to draw from those graphs:

  1. The big institutional investors, normally the long-term holders of shares, are now being completely out-traded by the speed with which small speculators and hedge funds are turning over their stock-holdings;
  2. There’s a formula error where short-selling is counted as a negative holding period (always possible);
  3. Big institutional investors can lower costs by trading in derivatives linked to shares, rather than the shares themselves; or
  4. Some other explanation that I haven’t thought of.

Look, clearly, a big part of the reduction is the growth in high frequency trading – because those traders buy and sell so rapidly that they’ll certainly be skewing the holding period downwards. And they’re not buying the share for value – they’re buying the share for arbitrage – so they really shouldn’t count. That said, I’m going to discount them from the equation because these trends in shorter-term shareholding have been in place since the 1980s – back when some stock exchanges were still trading on a floor with brokers making hand signals at each other.

But regardless of the reason for the short-term trading bias, there is a bad managerial incentive being created.

So let me bring Jack Welch AKA Mr General Electric into the picture. Mr Welch built up his investment and directional philosophy around the concept of Shareholder Value Maximisation, which basically says that the main goal of managers and directors should be to maximize the share price for the holders of the company’s shares. And his message spread far and wide.

So at first, it seems like a fairly good idea. The owners of the company will surely have the greatest interest in seeing the company grow and do well. And the business world then turned its attention to “aligning the interests of management with those of the shareholder” by granting management share options and performance-linked bonus incentive schemes and so on.

The problem is: what happens when the owner of the business is only interested in having his value maximized over the next 7 months, or the next few weeks, or some other incredibly short period of time? Because that’s what the above graphs are implying: that the average shareholder expects to extract their maximized value within a year of buying their shares.

Next question: are such owners interested in long-term projects? Or in sustainable growth that might require some upfront capital investment, but will pay out great returns in three to four years time? And are these owners even interested in replacing capital equipment?

If we’re honest, I think that we’d answer all those questions with a collective negative. Because those shareholders are interested in quarterly earnings, and how those can be maximized by cutting costs and generating the greatest profit from the assets immediately disposable to that end.

Far from value maximisation, that sounds like value destruction for future shareholders.

To the point where Jack Welch turned around and called his idea the worst in history.


Rolling Alpha posts about finance, economics, and sometimes stuff that is only quite loosely related. Follow me on Twitter @RollingAlpha, or like my page on Facebook at www.facebook.com/rollingalpha. Or both.

Big Data and Public Living

Here is a post that someone thought was just going out to her friends:


Perhaps not the classiest thing to post on Facebook…

Here is that same post, with some of the public commentary that it generated:


Check out the rainbow-profile-picture-to-celebrate-love commentator!

Here is a related question: would you allow this woman into your home?

Or, let’s say that you own a shop – would you exercise that “right of admission reserved”?

And if you sit on the side of “Whatever – let her and her money in!” – would you be okay with other stores exercising their “right of admission reserved” on the basis of the store-owner’s anti-hunting sentiment?

Then there are other “sentiments”. We’re already familiar with American bakeries refusing to bake same-sex marriage cakes – but what if Bible Belt Christians start refusing to serve gay and transgendered people because of their email browser histories or the types of movies that they’ve watched on Netflix? Or liberals refusing the custom of anyone that had been photographed in the vicinity of a white supremacist rally, or someone that has contributed money to the Ted Cruz campaign? What about patriots refusing to serve anyone that has a family trust in a tax haven?

I know that’s a lot of questions. But I’ve been thinking about this recently, for a few reasons. Firstly, data breaching (these came from informationisbeautiful.net):

Screen Shot 2015-09-29 at 8.28.50 AM Screen Shot 2015-09-29 at 8.29.09 AM Screen Shot 2015-09-29 at 8.29.25 AM Screen Shot 2015-09-29 at 8.30.02 AM

I mean – our data is not safe. Although I think we already know this based on the sheer volume of spam received via email, sms and unsolicited facebook post.

But even putting that aside, Google and Facebook know me quite intimately: the articles I read, the posts I share, the stuff I buy on Amazon and takealot, the content of some of my emails, who my friends are, what my friends like, etc.

And those are not just “things” – because, after all, how do the people in our lives “know” us? They know what we like and what we don’t like. They know the things that we care about. They know our family histories and our future plans. And the close friends are those able to draw accurate conclusions about our so-called “private thoughts” by pulling some of those facts together. And while it may seem quite impressive when your new therapist hits you up with some key insight gleaned from the story that you just told – in most cases, that is the lowest of hanging fruit. Take “noticeable lack of mention of father” plus “obvious inequality in this ‘important’ friendship being complained about” and most of the time, that equals someone with high anxiety around abandonment.

And if you look at all the time that Google and Facebook get to spend observing us individually, there is just no rational way to assume that your private life is opaque. It’s simply a clever algorithm analysis away. The only upside is that we tend to be uninteresting as a collective.

But I found a new podcast recently called “Meanwhile in the Future”, and one episode in particular is worth a listen: “Facetime“. It’s about this very issue – the impact of public living, when facial recognition software in the security cameras of your local bakery becomes fast enough to pick you out of the crowd, trawl your data history, and notify the shopowner on whether or not they ought to pull a Kim Davis.

Won’t that be fun?

Rolling Alpha posts about finance, economics, and sometimes stuff that is only quite loosely related. Follow me on Twitter @RollingAlpha, or like my page on Facebook at www.facebook.com/rollingalpha. Or both.

The Robin Hood Index

This has been doing the rounds on the blogosphere (and Bloomberg):

robin hood index

I just thought I’d share it as well. Of course, you’ll get a different answer if you use the wealth of the top 1% instead of the top 1 person – but still interesting.

Happy Friday!

Rolling Alpha posts about finance, economics, and the corporate life in general. Follow me on Twitter @RollingAlpha, or like my page on Facebook at www.facebook.com/rollingalpha. Or both.

Big Pharma

I know these things are meant to be inflammatory (pun intended), but there are some good economic reasons to be concerned about the economics of the healthcare industry:

  1. Asymmetric Information: there is a gulf of knowledge gap between doctors and patients.
  2. Agency Issues: often, the person receiving the treatment is not the person paying for the treatment (at least, not directly).
  3. Captured Regulators: at worst, doctors are meant to be impartial regulators of medication (it’s why they prescribe it); in most cases, you expect them to be on the patient’s side. But their position makes them targets for financial capture by pharmaceutical companies.
  4. Captured Markets: when it comes to your health, most patients will just do what they’re told.
  5. Misaligned Incentives: patients want cures, pharmaceutical companies do not (because that would mean the end of revenue streams).

So this:


And this:


And this:


Rolling Alpha posts about finance, economics, and the corporate life in general. Follow me on Twitter @RollingAlpha, or like my page on Facebook at www.facebook.com/rollingalpha. Or both.