Piketty: Chapter 2

These first two chapters are Piketty setting the stage for his story. In Chapter One, he defined the basic variables in his calculations – in Chapter Two he lays out the mechanism of exponential growth.

The idea of exponential growth in economics goes back to Malthus and the Essay on the Principle of Population, first published in 1798. The young Malthus wrote it as a response to the optimism of writers such as Condorcet, a French aristocrat who had predicted, amidst the Revolution of the 1790s, an approaching age of prosperity through the perfection of economic arrangements and technology. (The Revolutionaries cut his head off.) Malthus put the kibosh on this through his population principle, which basically said that most people will live in grinding poverty, because population grows geometrically (that is, exponentially) while food production only grows arithmetically.  It is useful to recall that, in 1798, exponents were a new thing, and Malthus looked like a real smarty-pants for using the idea in his theory.

Anyways, two centuries later, the idea of exponential growth is pretty much indispensable in economics, and Piketty demonstrates why. Rates of growth – which are central to the interests of finance, industry, and demographers everywhere – show us how small differences can become crucial in the long run. As Piketty writes on page 77,

The central thesis of this book is precisely that an apparently small gap between the return on capital and the role of growth can in the long run have powerful and destabilizing effects on the structure and dynamics of social inequality.

If one looks at global population growth in the period 1700-2012, it has grown at an annual rate of just 0.8% – and if we extend that growth rate across the next three centuries, the population would be 70 billion – which Piketty declines to say is impossible. That he does not dismiss such numbers out of hand is something I really like about this book – an environmental scientist might imagine that if there were roughly ten times more humans living on the earth, they’d rapidly consume all available resources and transform the planet from a blue-green marble to a cinder. Thankfully, the discussion is limited to economics. This is, again, one of my favorite aspects of the book: there are constraints placed upon what the analysis can do. He never claims that these limits are absolute, or that the analysis is definitive – indeed, he makes clear that the work at hand is plastic, and therefore subject to manipulation. Why is this so important? Take this quote, from page 85:

The plain fact is that [the idea that the new information economy will allow the most talented individuals to increase their productivity many times over] is often used to justify extreme inequalities and to defend the privileges of the winners without much consideration for the losers, much less for the facts, and without any real effort to verify whether this very convenient principle can actually explain the changes we observe.

I’ve known folks who make the sort of claims Piketty is talking about, and I’m pretty sure that if they read this passage, they’d suddenly be in a huge hurry to say that Piketty must be wrong about everything. Not because they care whether or not he is, but because they don’t want anyone to say anything about their stacking cash in the present tense. This is, in general, a big part of life under capitalism, I think. We’re critical of other people making money, but not too critical, because we want to be making money ourselves. What Piketty is about in this book is criticizing capitalism, which means criticizing the way we actually live, and that can be harder to bear than I think most people realize.

So, Piketty sets up this idea of exponential growth, and then goes about decomposing that growth in different ways to demonstrate what’s driving it. Global output growth has two components: one is the growth of the population, the other the growth of the population’s productivity. Between 1700 and 2012, world output grew 1.6% – with population growth accounting for half of that, and per capita output growth accounting for the other half. He is also able to break down this growth in different ways over various time periods and geographical locations, to show differences between times and places.

Comparing production and consumption over centuries and continents is, of course, pretty difficult to do with any consistency. The method employed here focuses on comparative price levels and incomes. Looking at prices and output, Piketty decomposes production into three categories: industrial, food, and services. The price of food in North America and Europe has mostly kept pace with the relative price level, whereas industrial goods have fallen, and services have risen. Certainly you could argue with the part about food prices, which, in the United States, are considerably lower now than they were 50 or a 100 years ago – and that those prices are what they are relative to everything else, and why, is its own interesting story. Suffice to say that I find Piketty’s basic outline here pretty solid – we can make comparisons about relative living conditions over time and so on, and doing so is useful for discussing the dynamics of wealth and income.

Within his discussion of comparative prices and so on, Piketty makes a really interesting observation about health care – if you have different health care systems with comparable outcomes, and one costs more than the other, then the more expensive one is inflating it’s home country’s GDP. Comparing private healthcare in the US to public healthcare in Europe, the data suggests that the two are roughly equivalent in terms of outcomes, but the system used in the US costs considerably more. In my view, the extra cost is not mere waste inflating the GDP, but rather a necessary expense incurred through providing healthcare to a large, diverse population composed of competing demographics prone to mutual distrust. It’s easy for smaller, demographically homogenous nation-states like Denmark, Sweden, Finland, France, Germany, Japan, South Korea, Ireland, Italy, Austria, Poland, Norway, or even Mexico to create socialized health care systems, because most everyone identifies with everyone else. In the US, most people think of themselves as Americans, but can identify some other resident group as sub-Americans (black people, hillbillies, immigrants, the bourgeoisie, etc) and thus we are always able to rationalize the exclusion of some group or groups from the provision of what should otherwise be public goods. Health care is always, always an interesting topic.

Towards the end of the chapter, Piketty engages in a compelling discussion of inflation. I was not aware of this, but it turns out inflation is largely a 20th century phenomenon. In the 18th and 19th century, inflation was close to zero, so that authors – Piketty uses Jane Austen and Honore de Balzac as examples – could use monetary amounts to describe characters and place their period and social status. To be considered wealthy in Europe in the 19th century demanded a yearly income 20 to 30 times larger than that of an ordinary working person. The particular quantities of money over these two centuries were remarkably stable. Moreover, the exchange rates between Western countries in this era were also stable – £ 1 = $5 = 20 Marks = 25 Francs – from the 19th century through to the first world war.

So what does inflation actually do, besides giving a name to the appreciation of prices throughout the economy? It redistrubutes wealth and income. Within this portion of his discussion, I think Piketty underlines what economic growth means – widespead social change. In the 20th century, the rise of inflation indicates a departure from the norms of the 18th and 19th century. In the 21st century, the return of slow growth and low inflation suggests that we are perhaps moving towards a new equilibrium – a new normal.

Whatever the case, Piketty has laid out his framework. We are able to compare statics – quantities and magnitudes of wealth and income – as well as dynamics – rates of growth, monetary inflation, price levels, and so on. The discussion is limited to fairly standard economic parameters – we’re not talking about the environment, we’re not talking about justice, we’re not talking about happiness or the meaning of life. I think this is a very useful way to go about discussing the topics at hand. One of the great problems of economics, in my experience, is the temptation to bring the world into every discussion, thereby making it futile to speak at all. Thus far, I think there’s a good balance.

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