Month: February 2017

Global Inequality: A New Approach for the Age of Globalization.  Branko Milanovic.  2016.

In this book, inequality is characterized globally, between nations, and within nations.  Inequality is often quantitated by the Gini Scale, which assigns a score of 0 for complete equality (everyone’s income is the same) and 1 for complete inequality (one person has all of a country’s income).  The scale is often expressed as a percent, so a score of 0.4 becomes 40.

The source of most inequality is that between countries, not that within countries.  (See fig. 1.5)  The global Gini of 70 is significantly greater than Ginis within individual countries, which range from the high 20s in Scandinavia and central Europe to the mid-60s in Columbia and South Africa.  More than 2/3 of income difference is explained by one variable—the country of residence.  Compared to the Congo, income is greater by a factor of 93 in the U.S., 71 in Sweden, 13 in Brazil, and 3 in Yemen.  Hence, there is essentially a citizen premium whereby the country of birth (independent of individual effort) is essentially a rent.

Wealth inequality is greater than income inequality, and both kinds of inequality are increasing. The global top 1% claimed 15.7% of income and 46% of wealth in 2010, compared to 14.5% of income and 32% of wealth in 2000.  For hyper-wealthy individuals (the top 0.0001% with more than $1 billion in 1987 dollars), the share of GDP more than doubled from 1987 to 2013 from less than 3% to more than 6%, mostly because of increased numbers of individuals in that category.  Meanwhile, even in advanced countries like the U.S. and Germany, 1/4-1/3 of the population has negative or zero wealth.

Since 1970, the marked inequality between countries has decreased somewhat, but the inequality within countries has increased in ways that differ substantially between emerging and developed nations.  This has resulted in hollowing out of the middle class of the developed world.  From 1988 to 2008, relative income growth was 75% for the developing world middle class (mostly China and other Asian counties) and 65% for the global top 1% (mostly rich countries) but only 0-5% for the rich countries’ middle class.  (See fig. 1.1) Consequently, China’s middle to upper class (80^th percentile) is converging with the U.S. lower to middle class (20^th percentile).  (See fig. 1.6)

 However, for absolute income growth, those at the top got the lion’s share (19% for the top 1%, 44% for the top 5%, and 60% for the top 10%).   The rich countries’ middle class, essentially from the 70^th to the 90^th percentiles, got 20%.  The developing world middle class and all others got only the remaining 20%.  The share of income for the developing world middle class is much lower than suggested by its relative increase since 1988 because its starting baseline was so low.  (See fig. 4)  In 2008, global per capita after tax income was $71,000 for the top 1%, $1,400 at the 50^th percentile, and under $450 for the bottom decile.

Technology, globalization, and political influence of the rich are said to be the three major forces responsible for this evolving pattern of markedly increasing inequality.  For the past several decades, these forces have resulted in the income from economic growth going almost entirely to the wealthy elite rather than to the general population.  On the other hand, inequality could be decreased by benign forces, such as education, social transfers, and progressive taxation.  Malign forces, such as wars, natural catastrophes, and epidemics could also drive down inequality but drive down mean income, as well.

In the U.S., inequality is quite high, particularly compared to other developed countries.  Those at the top in the U.S. do well and account for 50% of the global top 1%, but the middle class and poor are comparatively worse off.  U.S. inequality was at a sustained peak until about 1933 with the Great Depression and high unemployment, fell after World War II with the New Deal, strong unions, and high marginal taxes, and rose again after 1980 with globalization, reduced marginal taxes, declining unions, and mostly pro-rich government.  Half of the recently increased income inequality in the U.S. comes from just five counties—Manhattan (borough); Santa Clara, San Francisco, and San Mateo Counties in California (Silicone Valley), and King County in Washington (Seattle).

The author sees increasing inequality in the U.S. as inevitable for the foreseeable future due to a perfect storm of the following economic, social, and political factors:

1. Higher substitution of capital for labor (automation and robots).
2. Highly concentrated capital ownership among the rich.
3. Decreased power of labor versus capital (globalization, decreased unions, service jobs).
4. Increased tendency for the same people to have both high labor and high capital income (CEOs, children with inheritance and high paying jobs).
5. Assortative mating—skilled, usually rich, individuals marrying each other, particularly with increased women in the workforce at higher positions.
6. Growing importance of money in electoral politics.

• The rich as the major contributiors to campaigns and lobbying.
• Congress enormously more responsive to the rich (6 times more responsive for the rich than the middle class; not responsive for the poor).

7. Democracy suppression by the rich directed against minorities and the poor.

• Suppression of voting by poor and minorities—voting 80% for the top decile, 40% for the lowest decile.
• Creation of False Consciousness of middle class and poor by media and think tanks—1) Diversion from economic interests toward divisive social or religious interests. 2) Misbelief in USA social mobility (now less than Europe).  3) Misbelief in USA equality (more inequality and smaller middle class than Europe).  4) Blaming the poor as responsible for their own poverty and undeserving of support.
• Gerrymandering redistricting to dilute the vote of the poor and minorities.
• Citizens United—financed by the rich to increase their political influence.

8. Declining middle class (defined as 25% below to 25% above the median).

• 1979-2010 decreased share of population from 33 to 27% and of income from 26% to 21%.
• Leads to decreased support for social services like education and health care.
• Decreases middle class ability to limit power of both the rich and the poor.

9. Race—less support for the safety net than in Europe because voters see the beneficiaries as outside of their group, rather than within it, as in Europe (until recent high immigration).
10. Favorable taxation for the rich.

The author sees the consequences of increasing inequality as lower economic growth and an increased risk of plutocracy or populism.  He sees plutocracy (dictatorship by the propertied class) as emerging in the U.S. due to the entrenchment of the rich at the top of politics.  He sees this as leading to social separatism like that of Latin America with the rich paying for their own higher quality education, policing, etc. and not supporting public goods like education, health care, and infrastructure.  He sees the influence of populism emerging in Europe which has multiparty systems, more democracy, and less political influence of money, while the welfare state built on homogeneity is being undermined by globalization, rising inequality, and markedly increased immigration.

Phishing for Phools: The Economics of Manipulation & Deception.  George A. Akerlof and Robert J. Shiller.  2015.

The authors, both Nobel laureates in economics, argue that the common economic model of a free market with assumed perfect conditions is woefully inadequate for formulating policy in the real world.  Although free markets have contributed greatly to prosperity, they have also included many failures such as unfair distribution of income, inadequate social protections, and externalities like pollution that are mitigated by government intervention.  Phishing for phools is added to this list of market failures.  It is defined as manipulation and deception that are intrinsic to markets and that inexorably arise from the same profit motive that produces prosperity.

In the past four decades, behavioral economics has identified many aspects of human psychology that differ greatly from the rational man of economic models and that are highly vulnerable to phishing.  These include many cognitive biases and thinking in terms of narratives onto which marketers can graft other stories.  For a much longer time, advertising and marketing in both business and politics have used sophisticated techniques to understand and exploit these same vulnerabilities.

Numerous examples are drawn from all walks of life to show the pervasiveness of phishing for phools.  For the financial crisis of 2007, the untoward actions of investment banks, rating agencies, and the trading of derivatives and credit default swaps are discussed.  Rip-offs regarding cars, houses, and credit cards are revealed.  Phishing in politics is said to undermine democracy, particularly because of the oversize role of money in elections and lobbying.  For Pharma and phood, abuses before and after the Food and Drug Act of 1906 are discussed, including the 2006 lobbying victory that barred competitive bidding for Part-D Medicare drug coverage.  Bankruptcy for profit by fraudulent bookkeeping in the savings and loan crisis of 1986-95 is described.  The rise of Michael Milken’s junk bond industry that enabled the excesses of leveraged buyouts by corporate raiders is reviewed.

The phishing equilibrium is pervasive but not comprehensive.  That is because we have individuals who step back from the profit motive and act as leaders of business and government.  It is these heroes who make the free-market system work as well as it does, not the unadulterated actions of markets.  Some of these individuals work in or have founded organizations that measure and enforce standards, like the Food and Drug Administration, the National Bureau of Standards, and the Better Business Bureau.  Other individuals have developed legal protections for consumers or have worked to regulate business and finance in government agencies that may be strikingly underfunded by the enemies of regulation in congress.

The final section of the book discusses the competing stories of the free market.  (Remember the importance of narrative in human thinking.)  During the Age of Reform from 1890 to 1940, Populism, Progressivism, and the New Deal led to a new, more expansive view of the role of government.  The old story is that in the post-World War II years there was a consensus that government met real needs by Social Security, Medicare, securities supervision, deposit insurance, the interstate highway system, aid to the indigent, supervision of food and drugs, environmental protection, auto safety laws, laws against mortgage-gouging, civil rights, and gender equality.

The new story achieved currency in the 1980s when Ronald Regan said, “Government is not the solution to our problem; government is the problem.”  This story is derived from an unsophisticated interpretation of standard economics that says free-market economies without government interference yield the best of all possible worlds.  Actually, the free market is a double-edged sword that does produce great prosperity but that also produces highly significant harmful effects from which we need protection.  The authors provide three examples of important old story protections and new story efforts to end or minimize them by “reform” or defunding.

Social Security: In the old story, for those over 65, Social Security provides more than half of unearned income for the bottom 80% and still provides 31% for the top 20%.  Without it, the poverty rate for those over 65 would rise from 9% to 44%.  Nevertheless, in the new story, the Bush administration, in 2004, proposed to privatize a significant portion of the program.  The plan essentially gave the most vulnerable citizens government loans to be paid back with high interest rates in order to speculate in stocks and bonds. The authors thought that the plan was “to be blunt, daffy.”  In addition, the Paul Ryan plan to privatize Medicare would result in a typical person over 65 paying 68% rather than 25% of health care costs out of pocket by 2030.

Securities Regulation: In the old story, securities regulation is one of the most important government functions.  In the new story, these functions are to be undone by deregulation and defunding.  Both of these likely contributed significantly to the financial crisis of 2007.  In 2014, the SEC oversaw close to $50 trillion of assets with a budget of 0.003 cents per dollar of asset.  This is 1/400 of mutual funds budget of 1.03 cents per dollar for overseeing assets.  Quite possibly, this new story defunding of regulators, with workloads and salaries to match, contributed to the eight-year delay between notification of the SEC of suspicions about Madoff’s pyramid scheme and his arrest in 2008.

Citizens United: In the old story, more than a century of campaign law aimed at limiting distortions by moneyed interests in elections.  The Tillman Act of 1907 disallowed direct contributions by corporations to political campaigns.  New laws in 1974 created the Federal Election Commission and limited campaign contributions and spending.  McCain-Feingold of 2002 prohibited PACs, which had arisen to circumvent earlier campaign law, from mentioning candidates in advertising within thirty days of primaries and sixty days of general elections.  In the new story, Citizens United, a right wing nonprofit political organization challenged McCain-Feingold in 2007 by paying to release a partisan documentary about Hillary Clinton.  With new story thinking, the conservative majority of the Supreme Court denied the distinction between free speech by individuals and free speech by corporations.  John Paul Stevens wrote in dissent that this defies common sense.  Metaphorically, we must place some limits on those with resources to unleash huge loudspeakers that can drown out the messages of less well-endowed others.

The authors conclude that it is wrong only to picture the healthy (i.e. “efficient”) working of markets because it means that modern economics fails to grapple with deception and trickery that are inherent in competitive markets.  Thus phishing for phools is not just an occasional nuisance that should be considered on a case-by-case basis.  It is a generality that is an inevitable and inherent part of free markets.  Thus phishing for phools should be cast in an Adam Smith-style general equilibrium framework, which is the benchmark for thinking for all economists.

The Nobel Factor: The Prize in Economics, Social Democracy, and the Market Turn.  Avner Offer and Gabriel Soderberg.  2016.

The authors argue that in 1969 the Swedish business elite managed to acquire the Nobel name for a prize in economics for the purpose of exaggerating the scientific authority of market-liberalism to overturn Social Democracy.  This prize in economics was not part of the original group of Nobel prizes awarded every year since 1901.  This is hardly surprising since Alfred Nobel had written that he hated business and considered himself a social democrat.  Nevertheless, the prize was created by the central bank of Sweden by providing an endowment funded by taxpayers and by persuading the Nobel Foundation (dominated by businessmen), the Royal Swedish Academy of Science (which resisted), and the Nobel family to lend the prestige of its name.  However, the family insisted in setting the prize apart by naming it the “Prize in Economic Science in Memory of Alfred Nobel.”

The authors contend that the Nobel-selection committee, which did not include a single left-leaning economist until the 1990s, was biased from its onset toward the right compared to economists generally.  This is documented by multiple surveys of economists over several decades that consistently show 2/3 favored Social Democratic norms, while only 1/3 strongly opposed them in both Europe and the U.S (see fig. 1).  A study of doctoral students in the top six American universities showed that 2/3 were left of center in 1985 and still left of center when followed up in the 2000s.  A poll of senior American economists by the Economist in 2008 found 46% Democrats, 44% independents, 10% Republicans, and 80% supporting Obama’s policies.

The politics of the selection process are examined by a review of the history of the committee and by extensive graphic analysis of the lifetime patterns of citations of the candidates’ research.  Prizes were split relatively evenly between left-leaning and right-leaning economists, but did not reach the 2/3 to 1/3 split in the discipline.  The committee advanced its viewpoint by focusing on studies of markets and by presenting economics as more scientific than it is.  Some highly regarded liberal economists appear to have been blackballed—permanently for J. K. Galbraith and Joan Robinson and temporarily for Stiglitz and Akerlof.  On the other hand, the prize in 1974 rescued the status of the conservative Friedrich von Hayek (author of The Road to Serfdom), whose career had been at a dead end since the 1950s.

The authors set the actions of the Nobel Committee in the context of the struggle between social democrats and market-liberalism of business elites.  Market-liberalism is characterized as considering market exchange as superior to all alternatives with no role for government and with no concern for advantages from inequality of endowments of wealth, connections, ability, education, and health or for unequal rewards.  Nordic Social democracy is characterized as a vision of reciprocal solidarity, in which immediate self-interest is subordinated to collective advantage, with the addition of government programs to correct market failure so that health, education, welfare, and housing are pulled out of the market and predation of labor is prevented by central negotiation between employers and trade unions.

The authors note that due to social democracy with mixed economies, no societies on earth are farther from serfdom than the Nordic welfare states, which are among the richest and most equitable in the world.  In these states earnings growth is shared by all rather than just a few at the top as in the U.S. (see fig. 2).  In addition public sector social insurance is more than an order of magnitude cheaper to administer than market insurance for sickness, disability, and unemployment.  Compared to the U.K., the U.S. health system costs twice as much, has inferior outcomes, and fails to cover everyone.

According to the authors, the market-liberalism favored by the Nobel Committee is not entitled to the authority of science because it lacks natural science’s widely shared core principles and requirement for empiric validation.   Its main feature is that its doctrines are highly convenient for great wealth, polluting industry, risky finance, and those who don’t want to pay taxes or help the needy.  Moreover, the mostly theoretical neoclassical economics at its base has been largely discredited in the last several decades by the rise of empiric and behavioral economics.  These disciplines have disproven many of the theoretical conclusions, assumptions, and models about perfect markets, rational choice, and so on by actual rigorous measurement and observation.

Models of market efficiency (the invisible hand) fail because assumed extensive uniformity, perfect information, and perfect competition, not to mention an absence of bad faith, opportunism, and fraud do not exist in the real world.  Also, efficiency is worth having, but so are other values, such as truth, justice, freedom, loyalty, and obligation.  Models of Rational Choice (informed self-interest) fail because of the same assumptions and because actual human choice has been shown to differ greatly from that of models.  Also, the self-interest model excludes other influences, such as friendship, love, loyalty, charity, and integrity.  The Just World Theory, which states that everyone gets what he deserves regardless of prior endowments, justifies inequality and hardship as arising from individual desert.  Thus its purpose is to dismantle constrains on the wealthy and dismantle protections for everybody else.  It is essentially a license to inflict pain. The Optimal Taxation Model suggested a low linear tax of 20-30% with marginal rates declining as income increased until they reached zero for the top earner.  The model is open to many criticisms, and other top economists have suggested a top rate of 78%, not zero.

Despite these and many more shortcomings, market-liberalism, with authority boosted by several Nobel Prizes, managed to gain political ascendancy in the past several decades and helped bring about the negative consequences of the “market turn” referred to in the book’s title.  The massive redistribution of wages and benefits away from workers and toward wealthy elites caused soaring inequality.  Deregulation contributed to the financial crisis of 2007.  The introduction of ownership equity incentives for managers led to systematic plundering of corporations.  Privatizing of welfare functions led to inferior programs with higher risk, lower employer contributions, and high fees (25-40% for pension investment).  Imposition of austerity by the IMF and World Bank according to the “Washington Consensus” led to slower economic growth, collapsed wages, lower standards of living, and increased corruption throughout Latin America, Southeast Asia, Russia, and Eastern Europe.

The authors ask, “What warrant does Nobel economics provide for the market turn?  As science, not much….Economics, even Nobel economics, does not hang together very well….The massive empirical turn in economics during the last two decades, the work of field experiments and historical ‘natural experiments’, is a silent repudiation of equilibrium economics.  To recapture validity, economics has to come down to the ground of argument, evidence, and counterargument, supported by reason and an open mind.”

 

 

The Great Leveler: Violence and the History of Inequality from the Stone Age to the Twenty-First Centrury.  Walter Scheidel.  2017.

The author’s thesis is that throughout recorded history extremely violent shocks have been necessary for essentially all substantial reductions in inequality.  These shocks are identified as the Four Horsemen of Leveling—mass mobilization warfare, transformative revolution, state failure, and lethal pandemics.  An enormous volume of examples from all of recorded history and from all parts of the globe is presented in support of these findings.

The exhaustive review shows that high inequality has been the default condition of humanity for thousands of years as “history has alternated between long stretches of rising or high and stable inequality interspersed with violent compressions.”  This pattern has been a feature of human existence ever since agriculture began producing surpluses that could be captured by predatory elites with hereditary property rights.  This process was enhanced by state formation, commercialization, and the exercise of political, military, and ideological power by elites.  This has been the norm from the ancient and premodern civilizations of Mesopotamia, China, India, Egypt, Rome, Greece, Medieval Europe, Mesoamerica, South America, and others up to the major countries of the modern world.

The first of the Four Horsemen of Leveling, warfare, must rise to the level of mass mobilization to result in widespread reduction of inequality.  With wars of sufficient intensity and duration, both winning and losing sides experience substantial decreases in inequality, not just from destruction of capital, but also from a changed political climate with respect to inflation, taxes for the rich, and conditions for workers.  World Wars I and II, where all combatants lost a great deal and experienced considerable leveling, are prime examples of this process.  Earlier preindustrial warfare usually did not rise to this level and usually did not contribute to a widespread reduction of inequality because of its more limited scale.

The second Horseman, transformative revolution, requires similarly pervasive mobilization of resources in every single town and village to achieve radical leveling.  The Twentieth Century Communist Revolutions of Russia, China, and some smaller states are prime examples of this process.  These revolutions resulted in markedly reduced inequality brought about by expropriation, extreme bloodshed, and considerable loss of wealth.  Many earlier uprisings, including the French Revolution, also sought redress of grievances but rarely succeeded in significantly reducing inequality, at least in part because the necessary violence and control were beyond preindustrial means.

The third Horseman, state failure, occurred when earlier states were unable to check internal and external challengers, protect key allies and associates of rulers, and extract revenues required for these tasks and for enriching the power elite.  Typical outcomes included loss of control of subjects and territory and replacement of state officials by warlords.  Inequality decreased because the wealth of elites had been protected by the state and in many cases had been acquired by close association with the state as a source of rents and corruption.  Examples of this occurred in Bronze-age Greece (Mycenae), the Tang Dynasty in China, the western half of the Roman Empire, the Classic Maya Civilization, and modern Somalia.

The fourth Horseman, lethal pandemics, resulted in such massive loss of life that market forces changed to the disadvantage of elites and in favor of workers and peasants.  In the Fourteenth Century, the Black Plague killed 1/3-1/2 of Europeans and resulted in large tracts of abandoned and idle land and a shortage of workers.  Thus the value of lands and rents of elites deceased markedly, and the wages available to surviving workers increased markedly.  Interestingly, then as now, elites who favored laissez-faire when it worked for them, now demanded government intervention to suppress the rising cost of labor.  However, the imbalance was so severe that market forces asserted themselves over government fiat and coercion.  Examples include the Black Plague, the Columbian Exchange (gold and silver to Spain and Portugal in return for small pox and measles to the Americas, which probably caused more devastation than the Black Plague), the Justinian Plague of early Byzantium, the early Roman Empire Plague, and numerous others.

Special attention is given to the Great Compression of 1914 to 1945, which included World War I, the Great Depression, World War II, and the Great Communist Revolutions.  The extreme violence of the time resulted in massive loss of life (well over 100 million killed), massive destruction of property, and extensive redistribution of property by taxation and inflation to fund the war and by confiscation in communist countries.  As a consequence, inequality decreased markedly, particularly after World War II, so that the top 0.01% lost over 90% of wealth in France and Japan and 80% of income in the U.S.

Inequality remained low for several decades after World War II until about 1980 when it began an inexorable rise back to the much higher levels before the Great Compression.  Numerous additional examples are provided to show that this is the usual sequence.  Once violent shocks have passed, nothing is left with sufficient strength to restrain the market and other forces that inevitably lead to rebounding inequality.  Thus the relative equality of the Great Compression that many of us thought was the normal status quo was actually a marked exception from the long-term baseline of much higher inequality.

In addressing the role of violence in falling inequality, the author mentions but does not try to answer some interesting related questions.  He does not study the inverse of his thesis, namely whether high inequality gives rise to violent shocks.  However, he does comment that “there is currently no compelling reason to assume a systematic causal connection between…inequality and…violent shocks.”  Also, he focuses on the distribution of material resources within societies but not between countries.  Hence, he acknowledges that northern European countries manage inequality much better than the U.S., showing that policy differences matter, but limits discussion to his view that European policies may be unsustainable due to aging and slower economic growth.

So what hope is there for those who think extreme inequality is not only unfair but bad for economies?  The author explores a wide variety of potential candidates for peaceful alternatives for reduction of inequality.  These include land reform, farm debt relief, economic development, democratization, education, emancipation, economic crises, and others.  Generally, these conditions are found to have no correlation with consistently reduced inequality, except when associated with violence, such as with land reform.  In addition, transformative violence from the Four Horsemen of Leveling is unlikely to return any time soon in the modern world, and no sane person would want it to.  Consequently, the next long stretch is likely to be a relatively peaceful return to rising inequality.