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Thomas Piketty, in Capital in the Twenty-First Century, offers a lot of ideas for new taxes, and suggests that coordination will be needed among EU nations to keep people from moving assets or themselves around to avoid those taxes. However, Piketty does not directly address the challenge presented by the existence of Switzerland.

Switzerland is a pleasant place to live (#3 in a world happiness ranking) and is a good central location for a multi-national company. According to heritage.org, the government spends about 34 percent of GDP. France, on the other hand, has a government that spends “more than half of the domestic economy” (source) while the U.S. is in between at “slightly over 40 percent of GDP” (source). Switzerland has a minimal debt-to-gdp ratio compared to France and the U.S. (article). Switzerland can thus afford to operate indefinitely with its existing tax rates. Nowhere in Capital in the Twenty-First Century does Piketty ask or answer the question “Why wouldn’t companies and people faced with these new taxes just move to Switzerland?”

Piketty makes the case that top executives at big companies are overpaid:

we find that the size of the decrease in the top marginal income tax rate between 1980 and the present is closely related to the size of the increase in the top centile’s share of national income over the same period. Concretely, the two phenomena are perfectly correlated: the countries with the largest decreases in their top tax rates are also the countries where the top earners’ share of national income has increased the most (especially when it comes to the remuneration of executives of large firms). Conversely, the countries that did not reduce their top tax rates very much saw much more moderate increases in the top earners’ share of national income.

It is always difficult for an executive to convince other parties involved in the firm (direct subordinates, workers lower down in the hierarchy, stockholders, and members of the compensation committee) that a large pay raise—say of a million dollars—is truly justified. In the 1950s and 1960s, executives in British and US firms had little reason to fight for such raises, and other interested parties were less inclined to accept them, because 80–90 percent of the increase would in any case go directly to the government. After 1980, the game was utterly transformed, however, and the evidence suggests that executives went to considerable lengths to persuade other interested parties to grant them substantial raises. Because it is objectively difficult to measure individual contributions to a firm’s output, top managers found it relatively easy to persuade boards and stockholders that they were worth the money, especially since the members of compensation committees were often chosen in a rather incestuous manner.

Furthermore, this “bargaining power” explanation is consistent with the fact that there is no statistically significant relationship between the decrease in top marginal tax rates and the rate of productivity growth in the developed countries since 1980. Concretely, the crucial fact is that the rate of per capita GDP growth has been almost exactly the same in all the rich countries since 1980.

In contrast to what many people in Britain and the United States believe, the true figures on growth (as best one can judge from official national accounts data) show that Britain and the United States have not grown any more rapidly since 1980 than Germany, France, Japan, Denmark, or Sweden.39 In other words, the reduction of top marginal income tax rates and the rise of top incomes do not seem to have stimulated productivity (contrary to the predictions of supply-side theory) or at any rate did not stimulate productivity enough to be statistically detectable at the macro level.

Considerable confusion exists around these issues because comparisons are often made over periods of just a few years (a procedure that can be used to justify virtually any conclusion).41 Or one forgets to correct for population growth (which is the primary reason for the structural difference in GDP growth between the United States and Europe). Sometimes the level of per capita output (which has always been about 20 percent higher in the United States, in 1970–1980 as well as 2000–2010) is confused with the growth rate (which has been about the same on both continents over the past three decades).

Our findings suggest that skyrocketing executive pay is fairly well explained by the bargaining model (lower marginal tax rates encourage executives to negotiate harder for higher pay) and does not have much to do with a hypothetical increase in managerial productivity.46 We again found that the elasticity of executive pay is greater with respect to “luck” (that is, variations in earnings that cannot have been due to executive talent, because, for instance, other firms in the same sector did equally well) than with respect to “talent” (variations not explained by sector variables).

Similarly, the idea that skyrocketing executive pay is due to lack of competition, and that more competitive markets and better corporate governance and control would put an end to it, seems unrealistic.

Our findings suggest that only dissuasive taxation of the sort applied in the United States and Britain before 1980 can do the job.

These findings have important implications for the desirable degree of fiscal progressivity. Indeed, they indicate that levying confiscatory rates on top incomes is not only possible but also the only way to stem the observed increase in very high salaries. According to our estimates, the optimal top tax rate in the developed countries is probably above 80 percent.

Do not be misled by the apparent precision of this estimate: no mathematical formula or econometric estimate can tell us exactly what tax rate ought to be applied to what level of income. Only collective deliberation and democratic experimentation can do that. What is certain, however, is that our estimates pertain to extremely high levels of income, those observed in the top 1 percent or 0.5 percent of the income hierarchy. The evidence suggests that a rate on the order of 80 percent on incomes over $500,000 or $1 million a year not only would not reduce the growth of the US economy but would in fact distribute the fruits of growth more widely while imposing reasonable limits on economically useless (or even harmful) behavior.

Obviously it would be easier to apply such a policy in a country the size of the United States than in a small European country where close fiscal coordination with neighboring countries is lacking.

here I will simply note that the United States is big enough to apply this type of fiscal policy effectively. The idea that all US executives would immediately flee to Canada and Mexico and no one with the competence or motivation to run the economy would remain is not only contradicted by historical experience and by all the firm-level data at our disposal; it is also devoid of common sense. A rate of 80 percent applied to incomes above $500,000 or $1 million a year would not bring the government much in the way of revenue, because it would quickly fulfill its objective: to drastically reduce remuneration at this level but without reducing the productivity of the US economy, so that pay would rise at lower levels. In order for the government to obtain the revenues it sorely needs to develop the meager US social state and invest more in health and education (while reducing the federal deficit), taxes would also have to be raised on incomes lower in the distribution (for example, by imposing rates of 50 or 60 percent on incomes above $200,000). Such a social and fiscal policy is well within the reach of the United States.

In other words, the top executives of a multi-national company currently headquartered in New York and getting paid (together) $100 million would just stay in New York and collect their $10 million after-tax salary (80 percent federal tax plus 10 percent for state and local). It would not occur to them that, since only 30 percent of their revenues came from the U.S., they might as well re-headquarter the company in Geneva and live there on about $60 million after taxes, flying back to New York, at shareholder expense, on the company Airbus A330 (executive configuration) whenever the mood struck. Plenty of Americans move in order to take better-paying jobs, even to places as culturally challenging as Saudi Arabia. Pregnant unmarried Americans will move 3000 miles so that their babies will be born in a jurisdiction where child support profits are higher (e.g., from New York to California, so that child support revenues in excess of $100,000 per year can be harvested). Piketty does not explain why business executives, whom he characterizes as manipulating their boards to enrich themselves at shareholder expense (a point that I have made as well!), would not be willing to move for a 6X after-tax pay raise.

In addition to a tax rate of at least 80 percent on higher incomes, Piketty proposes a “global tax on capital,” which he admits is unlikely to happen.

A global tax on capital is a utopian idea. It is hard to imagine the nations of the world agreeing on any such thing anytime soon. To achieve this goal, they would have to establish a tax schedule applicable to all wealth around the world and then decide how to apportion the revenues.

a global tax on capital would require a very high and no doubt unrealistic level of international cooperation. But countries wishing to move in this direction could very well do so incrementally, starting at the regional level (in Europe, for instance). Unless something like this happens, a defensive reaction of a nationalist stripe would very likely occur. For example, one might see a return to various forms of protectionism coupled with imposition of capital controls.

Protectionism and capital controls are actually unsatisfactory substitutes for the ideal form of regulation, which is a global tax on capital—a solution that has the merit of preserving economic openness while effectively regulating the global economy and justly distributing the benefits among and within nations. Many people will reject the global tax on capital as a dangerous illusion, just as the income tax was rejected in its time, a little more than a century ago. When looked at closely, however, this solution turns out to be far less dangerous than the alternatives.

To my mind, the objective ought to be a progressive annual tax on individual wealth—that is, on the net value of assets each person controls. For the wealthiest people on the planet, the tax would thus be based on individual net worth—the kinds of numbers published by Forbes and other magazines.

For the rest of us, taxable wealth would be determined by the market value of all financial assets (including bank deposits, stocks, bonds, partnerships, and other forms of participation in listed and unlisted firms) and nonfinancial assets (especially real estate), net of debt. So much for the basis of the tax. At what rate would it be levied? One might imagine a rate of 0 percent for net assets below 1 million euros, 1 percent between 1 and 5 million, and 2 percent above 5 million. Or one might prefer a much more steeply progressive tax on the largest fortunes (for example, a rate of 5 or 10 percent on assets above 1 billion euros). There might also be advantages to having a minimal rate on modest-to-average wealth (for example, 0.1 percent below 200,000 euros and 0.5 percent between 200,000 and 1 million).

The primary purpose of the capital tax is not to finance the social state but to regulate capitalism. The goal is first to stop the indefinite increase of inequality of wealth, and second to impose effective regulation on the financial and banking system in order to avoid crises. To achieve these two ends, the capital tax must first promote democratic and financial transparency:

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In order to prove that no event is safe from being ruined by old uncool people, I joined some young folks with whom I work at the Boston Calling Music Festival on Sunday.

How was it? The acoustics are pretty bad in the concrete canyon so it was hard to understand what all of the white male indie rockers were complaining about. Wikipedia says that most songs are about girlfriends who wander off after lovers’ quarrels, though most of the guys looked old and rich enough that being tapped for $millions in child support profits seemed like the more likely end to a relationship (see Liza Ghorbani and Liam Gallagher). The field seems ripe for an affirmative action campaign.

The consensus favorites from the Sunday line-up were Bastille (all of the fans who’d crowded towards the front of the stage during their performance were young women), The Box Tiger, and Tigerman Woah! Modest Mouse closed the festival weekend with a well-received set.

VIP tickets provided shelter from the sun but, being pretty far away from the stage meant that the music was balanced too far toward the bass. Hard Rock Cafe did the catering for the VIP crowd, and occasionally restocked a meager supply of pretzels, chips, celery and carrot sticks, and turkey/ham/chicken sandwiches on white bread (can they truly be this bad at making and serving food yet still operate a restaurant chain?). Water was available for $1 per bottle, but they ran out towards the end of the concert.

A few photos: on Google+

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Matt Guthmiller is planning to fly around the world in a 1991 Bonanza (Boston Globe; Guthmiller’s site), departing May 27. He’ll be around 19 years and seven months old when done, thus becoming the youngest person ever to fly solo around the world. It turns out that Guthmiller is a pilot/renter at East Coast Aero Club (where I am a helicopter/Cirrus instructor) and has flown about 80 hours with us.

Reading about this while halfway through Thomas Piketty’s Capital in the Twenty-First Centuryhas me wondering why a rich kid hasn’t crushed this record by more than two years. Here’s how it would work…

• age 14: build up about 300 hours flying with an instructor in Mom and Dad’s Cirrus SR22
• age 15: build up an additional 300 hours flying with an instructor in Mom and Dad’s single-engine turboprop, such as a TBM 900
• age 16: build up an additional 300 hours flying with an instructor in Mom and Dad’s Embraer Phenom 300 (single-pilot certified business jet); do some solo flying in the turboprop
• two weeks prior to 17th birthday: camp out at CAE in the Phenom 300 sim (at DFW Airport); call up Jeppesen and ask them to make all of the arrangements for a round-the-world trip (New Yorker says that they handle exotic destinations and projects with ease)
• 17th birthday: take Private airplane single-engine land checkride in the turboprop; take multi-engine land checkride and Phenom 300 type rating checkride in the Phenom 300 sim. Now the teenager has an FAA Private/multi/jet type certificate and can fly an N-registered airplane anywhere in the world.
• 17th birthday+1: depart on round-the-w0rld trip in Mom and Dad’s Phenom 300 (still air ferry range is about 2200 nautical miles, which means it could do all of the legs in Guthmiller’s planned trip given a west-to-east tailwind or, alternatively, cross the Pacific Ocean between Russian and Alaska).
• 17th birthday+5: arrive back at DFW reasonably well rested after about 65 hours of sitting in air-conditioned pressurized comfort watching the Garmin autopilot hold altitude and course

What’s wrong with this plan? We have a 900-hour pilot with 300 hours in type doing about 15 takeoffs and landings in a plane that practically flies itself and, more importantly, has an onboard restroom. If he or she gets lonely on the 4- or 5-hour legs and needs to keep in touch with Facebook friends, the Phenom 300 has built-in global Aircell Internet service. He or she can make calls to the Jeppesen dispatchers on the hard-wired Iridium phone and/or call Mom and Dad.

[I spoke with Matt Guthmiller by phone. He says that the organization keeping track of the “youngest circumnavigator” is Guinness Book and they require only that the distance be over 20,000 nautical miles, crossing every meridian. So the above plan with the Phenom 300 would qualify, in Guthmiller’s opinion, and the plane could be taken through Russia and Alaska so that the entire trip would be very comfortably within the plane’s normal range. The reason that Guthmiller is not going through Alaska is that 100LL gasoline is not available in Russia. Barrels would need to be shipped in ahead of time at a cost of about $50 per gallon.]

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Thomas Piketty, in Capital in the Twenty-First Century, is apparently an Apple fan-boy:

Note, too, that Steve Jobs, who even more than Bill Gates is the epitome of the admired and talented entrepreneur who fully deserves his fortune, was worth only about $8 billion in 2011, at the height of his glory and the peak of Apple’s stock price. That is just one-sixth as wealthy as Microsoft’s founder (even though many observers judge Gates to have been less innovative than Jobs)…

[As long as Piketty is deciding who deserves to be rich, why did he not set aside any $billions for the shareholders of Xerox who financed the development of the modern personal computer at PARC? Or for the researchers who programmed the Alto?]

This is part of a chapter where Piketty says that he has determined that extremely rich people earn a better return on investment than average schmoes (in the case of Steve Jobs, of course, he might be right due to Jobs’s ability to grant himself backdated stock options (nytimes)). Piketty did this by looking at the Forbes 400 and similar journalist-produced lists of rich people around the world.

it is perfectly possible that wealthier people obtain higher average returns than less wealthy people. There are several reasons why this might be the case. The most obvious one is that a person with 10 million euros rather than 100,000, or 1 billion euros rather than 10 million, has greater means to employ wealth management consultants and financial advisors. If such intermediaries make it possible to identify better investments, on average, there may be “economies of scale” in portfolio management that give rise to higher average returns on larger portfolios. A second reason is that it is easier for an investor to take risks, and to be patient, if she has substantial reserves than if she owns next to nothing. For both of these reasons—and all signs are that the first is more important in practice than the second—it is quite plausible to think that if the average return on capital is 4 percent, wealthier people might get as much as 6 or 7 percent, whereas less wealthy individuals might have to make do with as little as 2 or 3 percent.

This is a surprising hypothesis since generally the larger the fund the closer the results are to indices. Also, the main investment vehicle that is available to rich people but not to the rabble is the hedge fund. Yet hedge funds, on average, have underperformed the S&P 500 in recent years (see this Bloomberg article, which notes that “Hedge funds last beat U.S. stocks in 2008”) and, except for the high fees, may not differ from the S&P 500 in the long run (see “The 20-Year Performance Of Hedge Funds And The S&P 500 Are Almost Identical”).

Piketty cites one or two examples of tracking individuals, e.g.,

Take a particularly clear example at the very top of the global wealth hierarchy. Between 1990 and 2010, the fortune of Bill Gates—the founder of Microsoft, the world leader in operating systems, and the very incarnation of entrepreneurial wealth and number one in the Forbes rankings for more than ten years—increased from $4 billion to $50 billion.

This 13.5 percent annual growth (compared to 8.5 percent for the S&P 500 over the same period) is presented to support the proposition that rich people get high returns, with no discussion of whether or not it might have more to do with the worldwide growth of the PC, the explosion of the consumer Internet, and the substantial monopoly that Microsoft enjoyed until its corporate suicide with Windows 8.

Piketty does the rest of his analysis basically by looking at the enormously rich as a group in 1987 and then looking at the enormously rich in 2010. Thanks to vibrant economic growth worldwide, today’s super rich are indeed ridiculously richer than the super rich of 1987. From this Piketty concludes that super rich people get great returns on investment. A potential problem with his analysis is that he has made no attempt to track the extent to which these are the same rich people/families in 2010 as in 1987. Thus he has succumbed to sample bias (classic example of sample bias: interviewing people in baggage claim and asking “what percent full was your flight?” will result in an overestimate of load factor because there are more people on full planes than on half-full planes).

The sample bias in the case of the Forbes 400 is stated right at the top of the article: “these are the richest bastards in the world.” Anyone who had a big pile of cash in 1987 and invested it in underperforming assets will, by definition, not be on the Forbes 400 list in 2010. And someone who made big leveraged bets that went well (see John Paulson) is a likely candidate for the list.

For completeness, here is the rest of Piketty’s analysis:

Furthermore, today’s global growth rate includes a large demographic component, and wealthy people from emerging economies are rapidly joining the ranks of the wealthiest people in the world. This gives the impression that the ranks of the wealthiest are changing rapidly, while leading many people in the wealthy countries to feel an oppressive and growing sense that they are falling behind. The resulting anxiety sometimes outweighs all other concerns.

[Note the French academic focus on the anxiety being felt by rich people in rich countries. Did he actually interview rich people in Europe and North America to come to the conclusion that they worry 24/7 over whether a family in India has a bigger private jet or nicer house?]

Yet in the long run, if and when the poor countries have caught up with the rich ones and global growth slows, the inequality of returns on capital should be of far greater concern. In the long run, unequal wealth within nations is surely more worrisome than unequal wealth between nations.

[Why the focus on national borders? Because I do not have $70 billion in my Bank of America account, I feel like a pauper compared to Carlos Slim. Would I feel even worse if I moved to Guanajuato and had less than $70 billion in a Banamex account?]

The oldest and most systematic ranking of large fortunes is the global list of billionaires that Forbes has published since 1987. According to Forbes, the planet was home to just over 140 billionaires in 1987 but counts more than 1,400 today (2013), an increase by a factor of 10 (see Figure 12.1). In view of inflation and global economic growth since 1987, however, these spectacular numbers, repeated every year by media around the world, are difficult to interpret. If we look at the numbers in relation to the global population and total private wealth, we obtain the following results, which make somewhat more sense. The planet boasted barely 5 billionaires per 100 million adults in 1987 and 30 in 2013. Billionaires owned just 0.4 percent of global private wealth in 1987 but more than 1.5 percent in 2013, which is above the previous record attained in 2008, on the eve of the global financial crisis and the bankruptcy of Lehman Brothers (see Figure 12.2). This is an obscure way of presenting the data, however: there is nothing really surprising about the fact that a group containing 6 times as many people as a proportion of the population should own 4 times as great a proportion of the world’s wealth.

The only way to make sense of these wealth rankings is to examine the evolution of the amount of wealth owned by a fixed percentage of the world’s population, say the richest twenty-millionth of the adult population of the planet: roughly 150 people out of 3 billion adults in the late 1980s and 225 people out of 4.5 billion in the early 2010s. We then find that the average wealth of this group has increased from just over $1.5 billion in 1987 to nearly $15 billion in 2013, for an average growth rate of 6.4 percent above inflation.2 If we now consider the one-hundred-millionth wealthiest part of the world’s population, or about 30 people out of 3 billion in the late 1980s and 45 out of 4.5 billion in the early 2010s, we find that their average wealth increased from just over $3 billion to almost $35 billion, for an even higher growth rate of 6.8 percent above inflation. For the sake of comparison, average global wealth per capita increased by 2.1 percent a year, and average global income by 1.4 percent a year, …

To sum up: since the 1980s, global wealth has increased on average a little faster than income (this is the upward trend in the capital/income ratio examined in Part Two), and the largest fortunes grew much more rapidly than average wealth. This is the new fact that the Forbes rankings help us bring to light, assuming that they are reliable. Note that the precise conclusions depend quite heavily on the years chosen for consideration. For example, if we look at the period 1990–2010 instead of 1987–2013, the real rate of growth of the largest fortunes drops to 4 percent a year instead of 6 or 7.4 This is because 1990 marked a peak in global stock and real estate prices, while 2010 was a fairly low point for both (see Figure 12.2). Nevertheless, no matter what years we choose, the structural rate of growth of the largest fortunes seems always to be greater than the average growth of the average fortune (roughly at least twice as great). If we look at the evolution of the shares of the various millionths of large fortunes in global wealth, we find increases by more than a factor of 3 in less than thirty years (see Figure 12.3). To be sure, the amounts remain relatively small when expressed as a proportion of global wealth, but the rate of divergence is nevertheless spectacular. If such an evolution were to continue indefinitely, the share of these extremely tiny groups could reach quite substantial levels by the end of the twenty-first century.

For example, if the top thousandth enjoy a 6 percent rate of return on their wealth, while average global wealth grows at only 2 percent a year, then after thirty years the top thousandth’s share of global capital will have more than tripled. The top thousandth would then own 60 percent of global wealth, which is hard to imagine in the framework of existing political institutions unless there is a particularly effective system of repression or an extremely powerful apparatus of persuasion, or perhaps both. Even if the top thousandth’s capital returned only 4 percent a year, their share would still practically double in thirty years to nearly 40 percent. Once again, the force for divergence at the top of the wealth hierarchy would win out over the global forces of catch-up and convergence, so that the shares of the top decile and centile would increase significantly, with a large upward redistribution from the middle and upper-middle classes to the very rich. Such an impoverishment of the middle class would very likely trigger a violent political reaction.

As we will see, only a progressive tax on capital can effectively impede such a dynamic.

Piketty’s analysis has, I think, the same logical and mathematical merit as the following process:

1. look at People magazine’s World’s Most Beautiful List for 2013 and compute that the average age is 35
2. look back to find that Michelle Pfeiffer was top of the list in 1990 at age 32
3. conclude that therefore Michelle Pfeiffer and other 1990 winners are aging at only 3/23rds or 13% of the rate as the rest of us (comparatively ugly) people

[This process has the advantage that the researcher gets paid a comfortable university salary to spend time looking at pictures of Michelle Pfeiffer. Combining Piketty’s love

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A couple of weeks ago, I wrote about a talent management consultant helping companies recruit and retain employees, which is apparently a challenging problem. Thomas Piketty, in Capital in the Twenty-First Century, offers a different perspective. According to Piketty, employers can pay whatever they choose:

What is in fact the justification for minimum wages and rigid wage schedules? First, it is not always easy to measure the marginal productivity of a particular worker. In the public sector, this is obvious [why? because government workers don’t exhibit any productivity?], but it is also clear in the private sector: in an organization employing dozens or even thousands of workers, it is no simple task to judge each individual worker’s contribution to overall output. To be sure, one can estimate marginal productivity, at least for jobs that can be replicated, that is, performed in the same way by any number of employees. For an assembly-line worker or McDonald’s server, management can calculate how much additional revenue an additional worker or server would generate. Such an estimate would be approximate, however, yielding a range of productivities rather than an absolute number. In view of this uncertainty, how should the wage be set? There are many reasons to think that granting management absolute power to set the wage of each employee on a monthly or (why not?) daily basis would not only introduce an element of arbitrariness and injustice but would also be inefficient for the firm.

In particular, it may be efficient for the firm to ensure that wages remain relatively stable and do not vary constantly with fluctuations in sales. The owners and managers of the firm usually earn much more and are significantly wealthier than their workers and can therefore more easily absorb short-term shocks to their income.

This justification of setting wages in advance obviously has its limits. The other classic argument in favor of minimum wages and fixed wage schedules is the problem of “specific investments.” Concretely, the particular functions and tasks that a firm needs to be performed often require workers to make specific investments in the firm, in the sense that these investments are of no (or limited) value to other firms: for instance, workers might need to learn specific work methods, organizational methods, or skills linked to the firm’s production process. If wages can be set unilaterally and changed at any moment by the firm, so that workers do not know in advance how much they will be paid, then it is highly likely that they will not invest as much in the firm as they should.

[emphasis added]

Employers apparently are not constrained by the possibility of their workers choosing to work for someone else, choosing to stay home with family and/or collecting government-provided Welfare benefits, etc. Nor do employers have to pay about the same or a little more than other employers in a region if they want to attract workers.

It occurred to me that I actually do know employers who live in this world: elite universities. Harvard University can get bright hard-working well-educated people to come work as researchers and teachers at whatever wages it offers, even $0. Presumably that is true of the institutions where Piketty has studied and taught. Thus the employer’s world that he paints is the world of Academia that he knows. People get paid so much in prestige and the social fun of interacting with other smart people that they are happy to work basically for free.

Because all employers, as least as far as Piketty can tell, are able to get people to come work for whatever wage they choose, central planning is critical, with wise government officials setting wages:

In the United States, a federal minimum wage was introduced in 1933, nearly twenty years earlier than in France.5 As in France, changes in the minimum wage played an important role in the evolution of wage inequalities in the United States. It is striking to learn that in terms of purchasing power, the minimum wage reached its maximum level nearly half a century ago, in 1969, at $1.60 an hour (or $10.10 in 2013 dollars, taking account of inflation between 1968 and 2013), at a time when the unemployment rate was below 4 percent. From 1980 to 1990, under the presidents Ronald Reagan and George H. W. Bush, the federal minimum wage remained stuck at $3.35, which led to a significant decrease in purchasing power when inflation is factored in. It then rose to $5.25 under Bill Clinton in the 1990s and was frozen at that level under George W. Bush before being increased several times by Barack Obama after 2008. At the beginning of 2013 it stood at $7.25 an hour, or barely 6 euros, which is a third below the French minimum wage, the opposite of the situation that obtained in the early 1980s (see Figure 9.1). President Obama, in his State of the Union address in February 2013, announced his intention to raise the minimum wage to about $9 an hour…

Britain introduced a minimum wage in 1999, at a level between the United States and France: in 2013 it was £6.19 (or about 8.05 euros). Germany and Sweden have chosen to do without minimum wages at the national level, leaving it to trade unions to negotiate not only minimums but also complete wage schedules with employers in each branch of industry. In practice, the minimum wage in both countries was about 10 euros an hour in 2013 in many branches (and therefore higher than in countries with a national minimum wage). But minimum pay can be markedly lower in sectors that are relatively unregulated or underunionized. In order to set a common floor, Germany is contemplating the introduction of a minimum wage in 2013

it seems likely that the increase in the minimum wage of nearly 25 percent (from $7.25 to $9 an hour) currently envisaged by the Obama administration will have little or no effect on the number of jobs. Obviously, raising the minimum wage cannot continue indefinitely: as the minimum wage increases, the negative effects on the level of employment eventually win out. If the minimum wage were doubled or tripled, it would be surprising if the negative impact were not dominant.

the best way to increase wages and reduce wage inequalities in the long run is to invest in education and skills. Over the long run, minimum wages and wage schedules cannot multiply wages by factors of five or ten: to achieve that level of progress, education and technology are the decisive forces.

In other words, Piketty has no idea at what hourly number the minimum wage should be set, or why Germany and Sweden have lower-than-American-wage-inequality without any minimum wage at all, but he assumes that if the government is setting wages then the number is going to be optimal. How well have the central planners in France managed the minimum wage?

The substantial increase in French inequality between 1945 and 1967 was the result of sharp increases in both capital’s share of national income and wage inequality in a context of rapid economic growth. The political climate undoubtedly played a role: the country was entirely focused on reconstruction, and decreasing inequality was not a priority, especially since it was common knowledge that inequality had decreased enormously during the war. In the 1950s and 1960s, managers, engineers, and other skilled personnel saw their pay increase more rapidly than the pay of workers at the bottom and middle of the wage hierarchy, and at first no one seemed to care. A national minimum wage was created in 1950 but was seldom increased thereafter and fell farther and farther behind the average wage. Things changed suddenly in 1968. The events of May 1968 had roots in student grievances and cultural and social issues that had little to do with the question of wages (although many people had tired of the inegalitarian productivist growth model of the 1950s and 1960s, and this no doubt played a role in the crisis). But the most immediate political result of the movement was its effect on wages: to end the crisis, Charles de Gaulle’s government signed the Grenelle Accords, which provided, among other things, for a 20 percent increase in the minimum wage. In 1970, the minimum wage was officially (if partially) indexed to the mean wage, and governments from 1968 to 1983 felt obliged to “boost” the minimum significantly almost every year in a seething social and political climate. The purchasing power of the minimum wage accordingly increased by more than 130 percent between 1968 and 1983, while the mean wage increased by only about 50 percent, resulting in a very significant compression of wage inequalities. The break with the previous period was sharp and substantial: the purchasing power of the minimum wage had increased barely 25 percent between 1950 and 1968, while the average wage had more than doubled.20 Driven by the sharp rise of low wages, the total wage bill rose markedly more rapidly than output between 1968 and 1983, and this explains the sharp decrease in capital’s share of national income that I pointed out in Part Two, as well as the very substantial compression of income inequality. These movements reversed in 1982–1983. The new Socialist government elected in May 1981 surely would have preferred to continue the earlier trend, but it was not a simple matter to arrange for the minimum wage to increase twice as fast as the average wage (especially when the average wage itself was increasing faster than output). In 1982–1983, therefore, the government decided to “turn toward austerity”: wages were frozen, and the policy of annual boosts to the minimum wage was definitively abandoned. The results were soon apparent: the share of profits in national income skyrocketed during the remainder of the 1980s, while wage inequalities once again increased, and income inequalities even more so (see Figures 8.1 and 8.2). The break was as sharp as that of 1968, but in the other direction.

Piketty’s perspective on the supposedly absolute power of employers to set wages reminds me of conversations that I have had with American academics. They love their jobs, which to them are like daily cocktail parties stuffed with interesting people. This leads them to disagree with anyone who suggests that higher tax rates will result in people working fewer hours (despite a huge quantity of research by fellow academics showing precisely this correlation, e.g., this NBER paper, a Forbes summary of a 2006 paper). They’d go to work for free, so even a 100% tax rate wouldn’t discourage them!

An academic was fuming about income inequality on Facebook, passionately supporting Barack Obama’s proposals for new laws, taxes, and regulations. After reflecting on his wife’s millions of dollars of earnings from writing fiction, I emailed him privately:

This seems like a tricky idea when you look at people in different fields, e.g., what kind of income disparity should exist between myself (computer programmer/helicopter instructor) and Justin Bieber (singer?)? But it should be easier when comparing people who do the same thing, e.g., all programmers.

But then I thought about your peculiar situation. You are married and therefore your household income includes that of your wife (cc’d). Your wife is a fiction writer. The median income of a fiction writer is $0 (since more than half can’t get anything). It is hard to think of an occupation where there is a greater and crueler disparity of income as well as non-economic benefits (fame, readership, satisfaction). How far does your advocacy of greater equality go? Would you support a higher tax on Judy’s [name changed] income so that fiction authors currently earning $0 per year were able to receive something for their work? Will you say that Obama needs to take action to stop Judy from receiving a $1 million advance for a book when there are novelists who’ve been working full-time for 30 years who cannot get published at all? Or

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Greta and I visited Mirak Hyundai today and test-drove the redesigned 2015 Hyundai Genesis. Our salesman was a very pleasant and low-key John Waters, nowhere near as old or strange as his namesake.

The Genesis has cruise control with “lane keeping” that tries to keep the car a constant distance from the car in front and within the white lines. Can you truly live the American dream of smoking your medical marijuana, sipping on your 40 oz. malt liquor, and cruising hands-free at 65 mph on the Interstate? Not unless you want to be pulled over for driving erratically and/or operating a bang-bang control system. The car does not attempt to read the road and drive in the middle of the lane. It waits until the car is nearly out of the lane and then puts in a reasonably sharp correction, resulting in a disturbing weaving.

The car demonstrates a desperate need for a modular IT system in which the dashboard has a dock for an iPad or Android tablet that can be upgraded periodically. The hardware in the car is already too slow for the software, which takes 3-4 seconds to do voice recognition for a simple command such as “radio”. The hardware gets so far behind the software that it sometimes misses control inputs, e.g., moving the tuning knob to change the radio frequency. One could live with this defect if one knew that it would be possible to get a more powerful tablet six months from now and have everything run twice as fast. However, I don’t think that there is any upgrade path and therefore a person who takes delivery of this car today will have, five years from now, an expensive collection of computer software and hardware that was obsolete seven years earlier.

How does it look and drive? The grill, while big enough to cool a mining truck’s diesel engine, doesn’t look quite as huge/hideous in real life as in the photos. The car drives very nicely and the suspension is definitely more compliant than the one in my seven-year-old Infiniti M35x. The factory audio system sounds great. The handling and performance is more than adequate for any public road.

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I am still working my way through Thomas Piketty’s Capital in the Twenty-First Century. I’m discovering that the page count can be explained to some extent by repetition and redundancy…

I have not reached the end of the book, but most of Piketty’s advice seems to be targeted at politicians, e.g., implement additional taxes on wealth (i.e., beyond existing wealth taxes such as real and personal property taxes). Aside from general edification is there any potential benefit to average readers from slogging through 696 pages?

A critical assumption behind the “crisis of inequality” that Piketty expects to develop is that world economic growth will be sluggish for the next 100 years, partly due to reduced population growth and partly due to the fact that we’re not bouncing back from any wars such as World War II that destroyed a lot of factories:

The median scenario I will present here is based on a long-term per capita output growth rate of 1.2 percent in the wealthy countries, which is relatively optimistic compared with Robert Gordon’s predictions (which I think are a little too dark). This level of growth cannot be achieved, however, unless new sources of energy are developed to replace hydrocarbons, which are rapidly being depleted.

[Piketty is not a believer in fracking, apparently.]

Suppose that growth slows to a crawl because world societies spend all of their money on social networking startups such as WhatsApp? How can an individual prosper in a depressed economy? Piketty writes about the Great Depression in France:

Within “the 9 percent,” midlevel civil servants and teachers fared particularly well. They had only recently been the beneficiaries of civil service raises granted in the period 1927–1931. (Recall that government workers, particularly those at the top of the pay scale, had suffered greatly during World War I and had been hit hard by the inflation of the early 1920s.) These midlevel employees were immune, too, from the risk of unemployment, so that the public sector’s wage bill remained constant in nominal terms until 1933 (and decreased only slightly in 1934–1935, when Prime Minister Pierre Laval sought to cut civil service pay). Meanwhile, private sector wages decreased by more than 50 percent between 1929 and 1935. The severe deflation France suffered in this period (prices fell by 25 percent between 1929 and 1935, as both trade and production collapsed) played a key role in the process: individuals lucky enough to hold on to their jobs and their nominal compensation—typically civil servants—enjoyed increased purchasing power in the midst of the Depression as falling prices raised their real wages. Furthermore, such capital income as “the 9 percent” enjoyed—typically in the form of rents, which were extremely rigid in nominal terms—also increased on account of the deflation, so that the real value of this income stream rose significantly, while the dividends paid to “the 1 percent” evaporated

In other words, this French reincarnation of Karl Marx who is so feared by the wealthy actually offers the same advice as the CATO Institute: work for the government.

Piketty assumes that an average person won’t be satisfied with being a government employee and Top 10% earner/wealther (my new word that will be needed if more people read Piketty!). It is not sufficient to be comfortable and to enjoy a better lifestyle than one’s parents. One must look enviously at the Top 0.1% (in the U.S., at the time Piketty wrote, this was apparently an income of more than $1.5 million per year). How to get closer to this elite group? Piketty quotes a Balzac character from Pere Goriot explaining why working for wages isn’t a viable strategy:

“Would Baron de Rastignac like to be a lawyer? Very well then! You will need to suffer ten years of misery, spend a thousand francs a month, acquire a library and an office, frequent society, kiss the hem of a clerk to get cases, and lick the courthouse floor with your tongue. If the profession led anywhere, I wouldn’t advise you against it. But can you name five lawyers in Paris who earn more than 50,000 francs a year at the age of fifty?” By contrast, the strategy for social success that Vautrin proposes to Rastignac is quite a bit more efficient. By marrying Mademoiselle Victorine, a shy young woman who lives in the boardinghouse and has eyes only for the handsome Eugène, he will immediately lay hands on a fortune of a million francs. This will enable him to draw at age twenty an annual income of 50,000 francs (5 percent of the capital) and thus immediately achieve ten times the level of comfort to which he could hope to aspire only years later on a royal prosecutor’s salary (and as much as the most prosperous Parisian lawyers of the day earned at age fifty after years of effort and intrigue).

What is most frightening about Vautrin’s lecture is that his brisk portrait of Restoration society contains such precise figures. As I will soon show, the structure of the income and wealth hierarchies in nineteenth-century France was such that the standard of living the wealthiest French people could attain greatly exceeded that to which one could aspire on the basis of income from labor alone. Under such conditions, why work? And why behave morally at all? Since social inequality was in itself immoral and unjustified, why not be thoroughly immoral and appropriate capital by whatever means are available? The detailed income figures Vautrin gives are unimportant (although quite realistic): the key fact is that in nineteenth-century France and, for that matter, into the early twentieth century, work and study alone were not enough to achieve the same level of comfort afforded by inherited wealth and the income derived from it. This was so obvious to everyone that Balzac needed no statistics to prove it, no detailed figures concerning the deciles and centiles of the income hierarchy. Conditions were similar, moreover, in eighteenth- and nineteenth-century Britain. For Jane Austen’s heroes, the question of work did not arise: all that mattered was the size of one’s fortune, whether acquired through inheritance or marriage.

Young people might be led astray by listening to advice from old people, who grew up in a unique time:

During the decades that followed World War II, inherited wealth lost much of its importance, and for the first time in history, perhaps, work and study became the surest routes to the top.

Should politicians fail to find the world’s wealth in its various offshore hideouts and tax it down to something that won’t inspire burning envy 24/7, Piketty essentially advocates that young people should hunt for rich partners to marry.

[Piketty is from a Civil Law jurisdiction like Denmark, and due to French child support maximums that correspond roughly to the actual cost of a child it is difficult to profit substantially from a one-night encounter that produces a child. An American reader would have to decide if it made more sense financially to try to have two or three out-of-wedlock children with two or three different high-income partners and thereby achieve a diversified portfolio of income streams (potentially $1 million/year or more for each child, entirely tax-free and therefore not exposed to the new much higher tax rates that Piketty proposes).]

Piketty points out that it is possible for a statistically insignificant number of workers to make real money:

The final and perhaps most important point in need of clarification is that the increase in very high incomes and very high salaries primarily reflects the advent of “supermanagers,” that is, top executives of large firms who have managed to obtain extremely high, historically unprecedented compensation packages for their labor. If we look only at the five highest paid executives in each company listed on the stock exchange (which are generally the only compensation packages that must be made public in annual corporate reports), we come to the paradoxical conclusion that there are not enough top corporate managers to explain the increase in very high US incomes, and it therefore becomes difficult to explain the evolutions we observe in incomes stated on federal income tax returns.41 But the fact is that in many large US firms, there are far more than five executives whose pay places them in the top 1 percent (above $352,000 in 2010) or even the top 0.1 percent (above $1.5 million).

Recent research, based on matching declared income on tax returns with corporate compensation records, allows me to state that the vast majority (60 to 70 percent, depending on what definitions one chooses) of the top 0.1 percent of the income hierarchy in 2000–2010 consists of top managers. By comparison, athletes, actors, and artists of all kinds make up less than 5 percent of this group.42 In this sense, the new US inequality has much more to do with the advent of “supermanagers” than with that of “superstars.”43 It is also interesting to note that the financial professions (including both managers of banks and other financial institutions and traders operating on the financial markets) are about twice as common in the very high income groups as in the economy overall (roughly 20 percent of top 0.1 percent, whereas finance accounts for less than 10 percent of GDP). Nevertheless, 80 percent of the top income groups are not in finance, and the increase in the proportion of high-earning Americans is explained primarily by the skyrocketing pay packages of top managers of large firms in the nonfinancial as well as financial sectors.

to the extent that certain job functions, especially in the upper management of large firms, become more difficult to replicate, the margin of error in estimating the productivity of any given job becomes larger. The explanatory power of the skills-technology logic then diminishes, and that of social norms increases. Only a small minority of employees are affected, a few percent at most and probably less than 1 percent, depending on the country and period.

It is also possible that the explosion of top incomes can be explained as a form of “meritocratic extremism,” by which I mean the apparent need of modern societies, and especially US society, to designate certain individuals as “winners” and to reward them all the more generously if they seem to have been selected on the basis of their intrinsic merits rather than birth or background.

In any case, the extremely generous rewards meted out to top managers can be a powerful force for divergence of the wealth distribution: if the best paid individuals set their own salaries, (at least to some extent), the result may be greater and greater inequality. It is very difficult to say in advance where such a process might end. Consider again the case of the CFO of a large firm with gross revenue of 10 billion euros a year. It is hard to imagine that the corporate compensation committee would suddenly decide that the CFO’s marginal productivity is 1 billion or even 100 million euros (if only because it would then be difficult to find enough money to pay the rest of the management team). By contrast, some people might think that a pay package of 1 million, 10 million, or even 50 million euros a year would be justified (uncertainty about individual marginal productivity being so large that no obvious limit is apparent). It is perfectly possible to imagine that the top centile’s share of total wages could reach 15–20 percent in the United States, or 25–30 percent, or even higher.

If executive pay were determined by marginal productivity, one would expect its variance to have little to do with external variances and to depend solely or primarily on nonexternal variances. In fact, we observe just the opposite: it is when sales and profits increase for external reasons that executive pay rises most rapidly.

In other words, try to be Bob Nardelli (check out Google Finance and click on the 10-year chart to see what a great value the Home Depot shareholders achieved

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Blue Cross sent us a 4-page hardcopy document in the U.S. mail last week.

This document is the result of a routine vaccination visit for our 5-month-old. Presumably part of the reason that this isn’t sent via email is concern about privacy, though “preventive medicine” and “other med services” aren’t very revealing.

If we could have paid cash for these services at a competitive rate they presumably would have cost no more than the $362 that Blue Cross actually paid. Is there any other industry that can afford to have these back-end tails of paperwork following a $362 purchase?

Related: this May 2010 posting about a $15 hardcopy bill following an $83 annual checkup.

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Thomas Piketty’s Capital in the Twenty-First Century addresses the apparent paradox of why U.S. GDP is so high yet Americans don’t seem to be living commensurately larger than Europeans:

the most recent available survey shows that while some European prices (for energy, housing, hotels, and restaurants) are indeed higher than comparable American prices, others are sharply lower (for health and education, for instance)

if a private health insurance system costs more than a public system but does not yield truly superior quality (as a comparison of the United States with Europe suggests), then GDP will be artificially overvalued in countries that rely mainly on private insurance. Note, too, that the convention in national accounting is not to count any remuneration for public capital such as hospital buildings and equipment or schools and universities. The consequence of this is that a country that privatized its health and education services would see its GDP rise artificially, even if the services produced and the wages paid to employees remained exactly the same.

Related: a June 2013 posting on Denmark’s bicycle infrastructure (GDP discussion at the bottom). The U.S. also spends a huge amount on litigation compared to most European countries (see this posting on divorce in Denmark, which is pretty typical for Civil Law jurisdictions). Lawyers arguing over who gets to own what are a big component of our GDP but the arguments don’t make Americans as a group better off.

How about GDP growth? Americans are champions and the Japanese are laggards, right?

Piketty reminds us to look at population growth as well:

it is important to decompose the growth of output into two terms: population growth and per capita output growth. In other words, growth always includes a purely demographic component and a purely economic component, and only the latter allows for an improvement in the standard of living. In public debate this decomposition is too often forgotten, as many people seem to assume that population growth has ceased entirely, which is not yet the case—far from it, actually, although all signs indicate that we are headed slowly in that direction. In 2013–2014, for example, global economic growth will probably exceed 3 percent, thanks to very rapid progress in the emerging countries. But global population is still growing at an annual rate close to 1 percent, so that global output per capita is actually growing at a rate barely above 2 percent (as is global income per capita).

First, the takeoff in growth that began in the eighteenth century involved relatively modest annual growth rates. Second, the demographic and economic components of growth were roughly similar in magnitude. According to the best available estimates, global output grew at an average annual rate of 1.6 percent between 1700 and 2012, 0.8 percent of which reflects population growth, while another 0.8 percent came from growth in output per head.

Such growth rates may seem low compared to what one often hears in current debates, where annual growth rates below 1 percent are frequently dismissed as insignificant and it is commonly assumed that real growth doesn’t begin until one has achieved 3–4 percent a year or even more, as Europe did in the thirty years after World War II and as China is doing today. In fact, however, growth on the order of 1 percent a year in both population and per capita output, if continued over a very long period of time, as was the case after 1700, is extremely rapid, especially when compared with the virtually zero growth rate that we observe in the centuries prior to the Industrial Revolution.

Indeed, according to Maddison’s calculations, both demographic and economic growth rates between year 0 and 1700 were below 0.1 percent (more precisely, 0.06 percent for population growth and 0.02 percent for per capita output).

The most spectacular reversal no doubt involves Europe and America. In 1780, when the population of Western Europe was already greater than 100 million and that of North America barely 3 million, no one could have guessed the magnitude of the change that lay ahead. By 2010, the population of Western Europe was just above 410 million, while the North American population had increased to 350 million. According to UN projections, the catch-up process will be complete by 2050, at which time the Western European population will have grown to around 430 million, compared with 450 million for North America. What explains this reversal? Not just the flow of immigrants to the New World but also the markedly higher fertility rate there compared with old Europe. The gap persists to this day, even among groups that came originally from Europe, and the reasons for it remain largely a mystery to demographers. One thing is sure: the higher fertility rate in North America is not due to more generous family policies, since such policies are virtually nonexistent there.

Should the difference be interpreted as reflecting a greater North American faith in the future, a New World optimism, and a greater propensity to think of one’s own and one’s children’s futures in terms of a perpetually growing economy?

Related: a June 2004 posting about whether a large number of U.S. children born into poor families might actually be a sign of optimism; an August 2008 posting about Gregory Clark’s A Farewell to Alms.

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I was in Austin, Texas recently (part of being an expert witness in software patent cases is becoming familiar with Federal courthouses in Texas) and visited the Phil Crawshay Gallery where I was exposed to some interesting landscape work. Crawshay uses a Gigapan robotic camera head, a Canon Rebel, and then prints out the resulting 1 GB (stitched) image files with a Canon ink jet printer. He mounts the prints behind acrylic and they look fantastic, with a three-dimensional depth. Can this be done commercially? Crawshay suggested Bumblejax as one lab that can do it. (He also suggested bayphoto.com for making huge prints.)

Once on the acrylic, Crawshay sometimes puts the prints in a traditional frame, but I thought that they looked much better on the wall without a frame.

Have readers played around with this new (to me) photo display technology?

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