Capital in the Twenty-First Century (43 page)

By definition, in all societies, income inequality is the result of adding up these
two components: inequality of income from labor and inequality of income from capital.
The more unequally distributed each of these two components is, the greater the total
inequality. In the abstract, it is perfectly possible to imagine a society in which
inequality with respect to labor is high and inequality with respect to capital is
low, or vice versa, as well as a society in which both components are highly unequal
or highly egalitarian.

The third decisive factor is the relation between these two dimensions of inequality:
to what extent do individuals with high income from labor also enjoy high income from
capital? Technically speaking, this relation is a statistical correlation, and the
greater the correlation, the greater the total inequality, all other things being
equal. In practice, the correlation in question is often low or negative in societies
in which inequality with respect to capital is so great that the owners of capital
do not need to work (for example, Jane Austen’s heroes usually eschew any profession).
How do things stand today, and how will they stand in the future?

Note, too, that inequality of income from capital may be greater than inequality of
capital itself, if individuals with large fortunes somehow manage to obtain a higher
return than those with modest to middling fortunes. This mechanism can be a powerful
multiplier of inequality, and this is especially true in the century that has just
begun. In the simple case where the average rate of return is the same at all levels
of the wealth hierarchy, then by definition the two inequalities coincide.

When analyzing the unequal distribution of income, it is essential to carefully distinguish
these various aspects and components of inequality, first for normative and moral
reasons (the justification of inequality is quite different for income from labor,
from inherited wealth, and from differential returns on capital), and second, because
the economic, social, and political mechanisms capable of explaining the observed
evolutions are totally distinct. In the case of unequal incomes from labor, these
mechanisms include the supply of and demand for different skills, the state of the
educational system, and the various rules and institutions that affect the operation
of the labor market and the determination of wages. In the case of unequal incomes
from capital, the most important processes involve savings and investment behavior,
laws governing gift-giving and inheritance, and the operation of real estate and financial
markets. The statistical measures of income inequality that one finds in the writings
of economists as well as in public debate are all too often synthetic indices, such
as the Gini coefficient, which mix very different things, such as inequality with
respect to labor and capital, so that it is impossible to distinguish clearly among
the multiple dimensions of inequality and the various mechanisms at work. By contrast,
I will try to distinguish these things as precisely as possible.

The first regularity we observe when we try to measure income inequality in practice
is that inequality with respect to capital is always greater than inequality with
respect to labor. The distribution of capital ownership (and of income from capital)
is always more concentrated than the distribution of income from labor.

Two points need to be clarified at once. First, we find this regularity in all countries
in all periods for which data are available, without exception, and the magnitude
of the phenomenon is always quite striking. To give a preliminary idea of the order
of magnitude in question, the upper 10 percent of the labor income distribution generally
receives 25–30 percent of total labor income, whereas the top 10 percent of the capital
income distribution always owns more than 50 percent of all wealth (and in some societies
as much as 90 percent). Even more strikingly, perhaps, the bottom 50 percent of the
wage distribution always receives a significant share of total labor income (generally
between one-quarter and one-third, or approximately as much as the top 10 percent),
whereas the bottom 50 percent of the wealth distribution owns nothing at all, or almost
nothing (always less than 10 percent and generally less than 5 percent of total wealth,
or one-tenth as much as the wealthiest 10 percent). Inequalities with respect to labor
usually seem mild, moderate, and almost reasonable (to the extent that inequality
can be reasonable—this point should not be overstated). In comparison, inequalities
with respect to capital are always extreme.

Second, this regularity is by no means foreordained, and its existence tells us something
important about the nature of the economic and social processes that shape the dynamics
of capital accumulation and the distribution of wealth.

Indeed, it is not difficult to think of mechanisms that would lead to a distribution
of wealth more egalitarian than the distribution of income from labor. For example,
suppose that at a given point in time, labor incomes reflect not only permanent wage
inequalities among different groups of workers (based on the skill level and hierarchical
position of each group) but also short-term shocks (for instance: wages and working
hours in different sectors might fluctuate considerably from year to year or over
the course of an individual’s career). Labor incomes would then be highly unequal
in the short run, although this inequality would diminish if measured over a long
period (say ten years rather than one, or even over the lifetime of an individual,
although this is rarely done because of the lack of long-term data). A longer-term
perspective would be ideal for studying the true inequalities of opportunity and status
that are the subject of Vautrin’s lecture but are unfortunately often quite difficult
to measure.

In a world with large short-term wage fluctuations, the main reason for accumulating
wealth might be precautionary (as a reserve against a possible negative shock to income),
in which case inequality of wealth would be smaller than wage inequality. For example,
inequality of wealth might be of the same order of magnitude as the permanent inequality
of wage income (measured over the length of an individual career) and therefore significantly
lower than the instantaneous wage inequality (measured at a given point in time).
All of this is logically possible but clearly not very relevant to the real world,
since inequality of wealth is always and everywhere much greater than inequality of
income from labor. Although precautionary saving in anticipation of short-term shocks
does indeed exist in the real world, it is clearly not the primary explanation for
the observed accumulation and distribution of wealth.

We can also imagine mechanisms that would imply an inequality of wealth comparable
in magnitude to the inequality of income from labor. Specifically, if wealth is accumulated
primarily for life-cycle reasons (saving for retirement, say), as Modigliani reasoned,
then everyone would be expected to accumulate a stock of capital more or less proportional
to his or her wage level in order to maintain approximately the same standard of living
(or the same proportion thereof) after retirement. In that case, inequality of wealth
would be a simple translation in time of inequality of income from labor and would
as such have only limited importance, since the only real source of social inequality
would be inequality with respect to labor.

Once again, such a mechanism is theoretically plausible, and its real-world role is
of some significance, especially in aging societies. In quantitative terms, however,
it is not the primary mechanism at work. Life-cycle saving cannot explain the very
highly concentrated ownership of capital we observe in practice, any more than precautionary
saving can. To be sure, older individuals are certainly richer on average than younger
ones. But the concentration of wealth is actually nearly as great within each age
cohort as it is for the population as a whole. In other words, and contrary to a widespread
belief, intergenerational warfare has not replaced class warfare. The very high concentration
of capital is explained mainly by the importance of inherited wealth and its cumulative
effects: for example, it is easier to save if you inherit an apartment and do not
have to pay rent. The fact that the return on capital often takes on extreme values
also plays a significant role in this dynamic process. In the remainder of
Part Three
, I examine these various mechanisms in greater detail and consider how their relative
importance has evolved in time and space. At this stage, I note simply that the magnitude
of inequality of wealth, both in absolute terms and relative to inequality of income
from labor—points toward certain mechanisms rather than others.

Before analyzing the historical evolutions that can be observed in different countries,
it will be useful to give a more precise account of the characteristic orders of magnitude
of inequality with respect to labor and capital. The goal is to familiarize the reader
with numbers and notions such as deciles, centiles, and the like, which may seem somewhat
technical and even distasteful to some but are actually quite useful for analyzing
and understanding changes in the structure of inequality in different societies—provided
we use them correctly.

To that end, I have charted in
Tables 7.1
–
3
the distributions actually observed in various countries at various times. The figures
indicated are approximate and deliberately rounded off but at least give us a preliminary
idea of what the terms “low,” “medium,” and “high” inequality mean today and have
meant in the past, with respect to both income from labor and ownership of capital,
and finally with respect to total income (the sum of income from labor and income
from capital).

For example, with respect to inequality of income from labor, we find that in the
most egalitarian societies, such as the Scandinavian countries in the 1970s and 1980s
(inequalities have increased in northern Europe since then, but these countries nevertheless
remain the least inegalitarian), the distribution is roughly as follows. Looking at
the entire adult population, we see that the 10 percent receiving the highest incomes
from labor claim a little more than 20 percent of the total income from labor (and
in practice this means essentially wages); the least well paid 50 percent get about
35 percent of the total; and the 40 percent in the middle therefore receive roughly
45 percent of the total (see
Table 7.1
).
⁵
This is not perfect equality, for in that case each group should receive the equivalent
of its share of the population (the best paid 10 percent should get exactly 10 percent
of the income, and the worst paid 50 percent should get 50 percent). But the inequality
we see here is not too extreme, at least in comparison to what we observe in other
countries or at other times, and it is not too extreme especially when compared with
what we find almost everywhere for the ownership of capital, even in the Scandinavian
countries.