Capital in the Twenty-First Century

Thomas Piketty, a professor at the Paris School of Economics, has written an international best-selling book that has won praise for its analysis of the sources of inequality in society. Capital in the Twenty-First Century, originally published in French, has been translated into English by Arthur Goldhammer and has been featured prominently on the New York Times’ list of nonfiction “Best Sellers” for several weeks during the year. Acknowledged by critics as a work of extraordinary ambition, originality, and rigor, Professor Piketty’s book reorients the understanding of economic history and provides sobering lessons for today. The author analyzes a unique collection of data from twenty countries, ranging back to the eighteenth century, to uncover key economic and social patterns. Modern economic growth and the diffusion of knowledge have helped to avoid inequalities on the scale predicted by Karl Marx, but the deep structures of capital and inequality threaten to generate extreme conditions that stir discontent and undermine democratic values. In particular, Piketty identifies the main driver of inequality as the historic pattern of returns on capital exceeding the rate of economic growth.

Professor Piketty’s book, a tome of 685 pages, is divided into four distinct parts: Part One: Income and Capital; Part Two: The Dynamics of the Capital/Income Ratio; Part Three: The Structure of Inequality; and Part Four: Regulating Capital in the Twenty-First Century. Part One presents the concepts of national income, capital, and the capital/income ratio, and then describes how the global distribution of income and output has evolved over time. Part Two examines the prospects for the long-run evolution of the capital/income ratio and the global division of national income between labor and capital. It includes detailed studies of the situations in France and Britain where extensive historical data are available. It continues with a focus on Germany and the United States and concludes with a broad assessment for the rest of the world. Part Three, with its focus on inequality, concentrates on the observed extent of inequality in society that has resulted from the way in which the distribution of income from labor and from capital has developed. It also considers the effects of inherited wealth and presents the prospects for the future outcomes for the distribution of wealth over the first part of the twenty-first century. Part Four concludes by developing policy guidelines from the findings and analysis in the first three parts. It proposes a new approach to progressive income taxation and describes what a progressive tax on capital adapted to current conditions might look like.

Capital is an integral part of any capitalist society; it is used to establish new enterprises and to expand the operations of existing businesses. Dynamic capital represents an important precondition and driver of economic growth. The relative importance of capital within a society is measured by the amount of capital in relation to the aggregate annual income from labor and capital combined. This capital/income ratio is a key metric that relates a nation’s capital wealth to annual income flow. In developed countries the capital/income ratio is typically in the range from five to six. In order for the relative level of capital to remain stable in a country over time, the rate of return on capital must equal the economic growth rate of the country. Between 1970 and 2010, the average annual rate of growth of per capita national income ranged from 1.6 to 2.0 percent in the eight most developed countries. Although different types of capital yield different rates of return, Piketty demonstrates that over time the average annual rate of return on capital assets is around four to five percent. This excess of the return on capital over the economic growth rate produces a tendency for the capital/income ratio to increase over the long-term. This fundamental aspect of the capital/income ratio provides the basis for Piketty’s research into the unequal distribution of capital within societies.

Over the last forty years, the extent of capital ownership increased in the United States from around 60% to about 70% for the top 10%, while for the top 1% the concentration of capital wealth increased from around 20% to about 30%. Based on these trends, Professor Piketty expects the capital/income ratio to increase to around seven and the concentration of wealth and its associated degree of inequality to continue to increase in the coming decades. As the current trends continue, inherited wealth will dominate society, whereas in a democracy the professed equality of rights of all citizens contrasts sharply with the very real inequality of living conditions. Piketty’s proposed counter measure to reduce inequality and avoid the ultimate scenario, where capital is excessively concentrated at the top with inherited wealth dominant, is to steepen progressive taxation and, more specifically, to levy progressive taxes on capital itself.