Friday, July 31, 2020

Plutonomy and Its Consequences

 The term plutonomy is used here to describe a situation where wealth as been so highly concentrated that many of the characteristics of the general economy are determined largely by decisions made by the extremely wealthy rather than by the much more numerous but average income people.  Thomas Piketty, in his book Capital and Ideology, has provided plenty of data we can peruse and analysis we can consider in discussing this notion.


Piketty likes to illustrate economic inequality by assessing how much of national income or wealth is held by the top fraction in the particular category.  This figure provides the wealth possessed by the top 10% (top decile) of the wealthy over the period from 1900 to 2015.



The following figure provides the same data for the top 1% (top centile).






The twentieth century, in the years before World War I, began with the Western Economies in an extremely inegalitarian state.  That situation arose in a time when taxation was low and usually regressive, allowing for wealth to be accumulated with few limitations.  Early in the twentieth century demands on nations for funds initiated a move toward more aggressive taxation.  Two world wars and the Great Depression generated highly progressive taxation.  After World War II, the European countries would use their high tax rates to provide desperately needed social services.  We in the United States like to refer to taxing the wealthy as a redistribution mechanism, as if we take their money and give it to someone else.  Actually, what the Europeans did was take that money and provide social services that previously had to be purchased individually.  Families with children who began to receive childcare, healthcare, education, and pensions at little if any cost in return for their taxes lived much better under this social insurance system, allowing for a dramatic increase in the size of the middle class in that era.  The social system also provided economic floors for the poor and disadvantaged that kept them out of abject poverty.

The United States followed a different path.  It was less unequal initially, something we proudly recall, but we would set in motion policies that would separate us from our European cousins and send us back up toward nineteenth century levels of inequality.  Our effort at providing social insurance mostly involved depression-era New Deal programs of the 1930s.  The decline in inequality stops around 1950 when we become more focused on military spending and begin assuming our healthy economy will provide all the benefits we will need.  Also, at that time began the long, gradual elimination of progressive taxation in our country.  The result was little postwar growth in the middle class compared to Europe (Piketty characterizes the middle class as the 50-90% income bin).  Medicare, Medicaid, and Johnson’s Great Society programs would be the extent of social welfare advances until Obama’s healthcare legislation.  Around 1980, inequality would again begin an inexorable climb.

Piketty’s evaluation of economic and social history concludes that the simplest way to contain the growth of wealth is by progressive taxation (some combination of taxes on income, wealth, and inheritance), and the most efficient way to raise wages for the poorest part of the population is by legislating an appropriate minimum wage.  He provides an extraordinary chart describing the evolution of progressivity in our system of taxation—one we should all commit to memory.




What is shown here is total taxation.  That includes federal income tax which has some degree of progressivity, and payroll, state, and local taxes, many of which are regressive.  Regressive taxes have increased over the years while tax rates for the wealthy have fallen dramatically.  The net result is that there is little difference between the effective tax rate of the wealthiest and the least wealthy.

We have already observed that a consequence of this taxation history is that the fraction of wealth owned by the richest has been increasing.  It is often argued that this is only fair because the richest among us use their wealth to invest in new job-producing enterprises.  If that were the case, one would expect to see some evidence of an economic benefit to society from all of this accumulated wealth.  Once again Piketty provides some relevant data.





In the United States the increase in tax rates on the wealthy in the 1910-1950 period did nothing to decrease growth.  It would be the current period from 1990 to 2020 when progressivity of taxation was greatly diminished that is associated with slow growth.  The next figure illustrates this in another fashion by comparing income inequality with growth.  Growth in inequality is associated with low economic growth.





A plutonomy is characterized by low economic growth as money is extracted from lower income people and transferred to upper income people.  The wealthy spend very little in the economy in which most reside.  They focus on luxury items that only they can afford and direct much of their funds to gambling in financial markets, neither of which contributes much to useful economic activity. 

Piketty provides the following figure to illustrate this transfer of wealth upward over the last 50 years.  He includes similar data for France.





 The data demonstrates that the United States is unique in the degree to which inequality has evolved.  We are highly unequal because we have explicitly chosen policies that would produce that result.  Piketty’s purpose in writing his book is to make clear that societies and their economies result from choices that are made, and there are many paths to a satisfactory society.  France has been able to do a better job of containing wealth growth and maintaining the income fraction possessed by the lower income population than the United States.  It did that with a high level of taxation but little in the way of progressivity.  France also managed to provide low-cost universal childcare, healthcare, education, and pensions; and let’s not forget shorter work weeks and those delightful six weeks of paid vacation each year while maintaining productivity levels at least as high as those of the United States.  There are many factors involved and thus many decisions to be made.  Consider that the United States was one of the leaders in establishing a significant minimum wage.  France eventually came around and provided a minimum that grew as inflation drove up the cost of living.  Meanwhile, we in the United States meekly acquiesced to the unsupported assumption that raising wages by fiat would cause harm and a loss of jobs.





Clearly the elimination of high marginal income tax rates for the wealthy has contributed greatly to the concentration of wealth.  That observation should not pass without recognizing that lowering tax rates for high incomes provides perverse incentives.  Company CEOs can become moderately wealthy in a high tax system, but gain little from making decisions to further maximize their personal wealth.  In a low tax system, they can spend their time trying to maximize their personal income and be richly rewarded for all sorts of aberrant behaviors.

As the concentration of wealth in the United States approaches or exceeds the highest level in our history, it is worth considering what the political consequences of such a state entail.  The wealth that accumulated by the beginning of the twentieth century occurred under regimes in which taxes were low and generally regressive.  Voting rights and possession of property were highly connected, meaning the wealthy often produced the policies that ensured their wealth would continue to grow.  In our current environment, a similar situation is in play, albeit, indirectly.  Today, money provides political allegiance through campaign contributions to would-be legislators.  This does not have to be the way in which things are done.

We do not have to accept what is such a burden to us now.  Piketty devotes almost 1100 pages of evaluation of historical social and economic systems to justify some rather simple conclusions.

“Inequality is neither economic nor technological; it is ideological and political.  This is no doubt the most striking conclusion to emerge from the historical approach I take in this book.  In other words, the market and competition, profits and wages, capital and debt, skilled and unskilled workers, natives and aliens, tax havens and competitiveness—none of these things exist as such.  All are social and historical constructs, which depend entirely on the legal, fiscal, educational, and political systems that people choose to adopt and the conceptual definitions they choose to work with.  These choices are shaped by each society’s conception of social justice and economic fairness and by the relative political and ideological power of contending groups and discourses.  Importantly, this relative power is not exclusively material; it is also intellectual and ideological.  In other words, ideas and ideologies count in history.  They enable us to imagine new worlds and different types of society.  Many paths are possible.”

The ideological rut we have descended into where economic might determines political might was never an efficient mode for either social or economic vitality no matter what stage in history it existed.

“From this historical analysis one important conclusion emerges: what made economic development and human progress possible was the struggle for equality and education and not the sanctification of property, stability, or inequality.  The hyper-inegalitarian narrative that took hold after 1980 was in part a product of history, most notably the failure of communism.  But it was also the fruit of ignorance and of disciplinary division in the academy.  The excesses of identity politics and fatalist resignation that plague us today are in large part consequences of that narrative’s success.”

If one wishes to change the dominant ideology, one must come up with an alternative.  That proposal must be argued, analyzed, optimized, and eventually sold to a significant fraction of the voting population.  The voters can overcome the influences of wealth if they act in unison, and they strike when the time is right.  There is a political adage: “Don’t waste a crisis.”  When the situation makes clear that the status quo no longer works, then the opportunity for significant changes has arisen.

“Historical change takes place when evolving ideas confront the logic of events: neither has much effect without the other.”

Covid-19 has presented just such an opportunity to introduce fixes for the many defects in our society and our economy.  But have we performed the ideological homework necessary to sell anything significant to the voting public?  It is not obvious.  Fortunately, or unfortunately, we still have time.


Saturday, July 18, 2020

Plutonomy: The Spending of the Wealthy


The term plutonomy has been around for a long time as an alternate term—a somewhat derogatory one—for economics and economy.  The word’s root is the Greek word for wealth.  The term plutocracy is more firmly recognized by the general public as describing a society that is dominated by the wealthy.  The term plutonomy would be resurrected and given a more specific and relevant meaning by a series of articles that emerged from Citigroup analysts beginning in 2005.  Oliver Bullough discusses the issues that were raised then in Moneyland: The Inside Story of the Crooks and Kleptocrats Who Rule the World.

In 2005, Ajay Kapur was director of Global Strategy Research for Citigroup.  He was responsible for identifying investment strategies for Citigroup customers.  At about that time, oil prices were climbing rather steadily, enough to cause pain in the economy.  He was observing that the equity markets were not responding to what should have been bad news in the way expected.  The attempt to understand this phenomenon would lead to the publication of a report entitled “Plutonomy, Buying Luxury, Explaining Global Imbalances.”

“The report’s message was a simple one: the rich are getting richer, and that can make you rich.”

“Kapur’s insight was that, if a majority of a country is owned by a very few people, it doesn’t necessarily matter what the oil price does.  The oil price is important to people who are on a budget.”

“According to the Citigroup analysts’ research, the top million households in the United States had approximately the same wealth as the bottom 60 million households.  And rich people have relatively little of their wealth tied up in their homes, meaning that a far higher proportion of that wealth is disposable.  If you looked at just financial assets, and exclude housing from the calculation, the top million households held more of the sum total of American wealth than the bottom 95 million households put together.  This was a new phenomenon, and one with lucrative possibilities for a canny investor.”

If the rich are going to continue to get richer then they will put ever more money into the kind of products that only they can afford.  What would any smart investor do in this situation?  They would buy shares in the companies making those products.

“He identified a basket of stocks that have benefited from the kind of purchases favored by Moneylanders: companies like Julius Baer, Bulgari, Burberry, Richemont, Kuoni and Toll Brothers.  His report traced the prices of the shares of the companies in the basket back to 1985, and showed that they cumulatively yielded an annual rate of return of 17.8 percent, far higher than the stock market as a whole.  That outsized return had only accelerated with time, particularly since 1994, when wealthy Russians and others began to develop their taste for Western luxuries.”

The interest here is not in such an investment strategy, but in Kapur’s use of the term plutonomy to recognize a change in the investment paradigm caused by the increasing concentration of wealth.  A stock’s price, in the past, was based on an evaluation by investors of the company’s growth and earnings potential.  This is the path taken by investors worried about losing their money.  Kapur’s conclusion was that the markets were behaving as though that approach no longer seemed determinative.  It was as if the investor class began using a different set of ground rules.

Let us fast forward to July, 2020.  The Covid-19 pandemic in the United States is out of control.  Workers are losing jobs at a record rate.  Many businesses have already failed as the virus has restricted economic activity, and many more are teetering on the brink.  Major components of the economy may have to be recreated for a new reality going forward.  It is not clear when or if the situation will ever return to a pre-pandemic state.  Competent political leadership at both state and federal levels is almost nonexistent.  How much worse could the situation possibly get?  And how has the investor community responded? 

After a brief fall when the emergency struck, the markets have generally been returning to near previous highs.  It appears that the investor class believes everything is going well and it is a good time to invest!  How can that be?  Perhaps returning to the notion of wealth concentration and plutonomy can provide an answer.  The fraction of wealth captured by the investor class has only grown larger since 2005.

Consider a situation where the investor class has sufficient wealth that its economic status is little threatened by major economic disruptions.  Such events hurt the little people who will no longer consume products at the same level, eliminating any investments in production capacity.  The investor class has more money to spend than places to spend it.  Conspicuous consumption can only eat up a small fraction of the wealth available, so what does one do with the remainder?  It must be invested somewhere, and the logical place to place large sums of money is in the financial markets.  The nature of a plutonomy appears to require an excess of funds to invest over traditional investment opportunities.  The result is an inevitable increase in asset prices.  Stock markets are flooded with funds beyond the level justified by the economic situation, driving share prices up no matter what.  And as long as the prices keep going up, why not keep throwing more money in?  If this is in fact what is occurring, we are observing an economic trend somewhere between casino gambling and a Ponzi scheme.  Gamblers usually will lose, and Ponzi schemes always collapse.

Extreme economic inequality creates a diverse set of problems.  The discussion above adds one more.  This cannot end well.


Monday, July 6, 2020

Russia: An Oligarchic Kleptocracy with Dreams of Empire


As a nation, Russia has always been a significant outlier.  It maintained a monarchical system long after other European countries progressed to forms of representative government.  It was still led by the Tsar as Russia entered World War I.  The Tsar was supported by a class of nobles and was just a few decades past finally releasing (for a price) their serfs from involuntary servitude.  Then, against all odds, the nation succumbed to a communist revolution that immediately brought entirely new economic and political elements to bear in a remarkable experiment.  That experiment failed with Russia and its Soviet Union dissolving.  That set off another remarkable experiment as Russia and other former communists nations had to transform themselves into some form of representative government and accept modern capitalism as the economic paradigm.  Russia again chose a unique path which resulted in what in many ways looks similar to the Tsarist days with the Tsar being replaced by Vladimir Putin and his supporting nobles becoming billionaire oligarchs who support him and do his bidding. 

In the course of this history, Russia went from one of the most unequal societies to one of the most equal and then all the way back to extreme inequality.  These are the types of transitions that intrigue Thomas Piketty and motivated the writing of his massive work Capital and Ideology.  As he often reminds his readers, the societies and economic systems we arrive at are not driven by fundamental laws of economics or human nature, but rather by the circumstances we encounter and the choices we make.  In other words, they depend on the ideologies we choose to embrace.  Piketty’s book provides considerable insight into the choices Russia made, and allows us to better understand why Russian society was what it was in the past and why it is what it is now.

Piketty points out, over and over again, that the character of a society and the degree of economic inequality is a function of how private ownership of property is treated.  He uses the term “sacralization of private property” to define the extreme primacy given to private ownership, even if obtained by theft or violence, over any socialization of the benefits of property ownership.  Property ownership became “sacred” because its sanctity was believed (by property owners) to be necessary for a stable society.   Property is capital, and as Piketty pointed out in his previous work, Capital in the Twenty-First Century, capital has traditionally earned income at a higher rate than labor.  Therefore, the degree that property is privately owned and protected from taxation and regulation will determine the degree of economic inequality.

Russia, prior to World War I, incorporated this sacralization of ownership similarly to other European nations, but had not modernized its society in other ways.

“Not only had the Tsarist regime been deeply inegalitarian; it had also failed dismally to develop Russia’s economy, society, and schools.  The Tsarist government relied on noble and clerical classes directly descended from premodern trifunctional society [nobles. clergy, workers].  It abolished serfdom in 1861, only a few decades before the Russian Revolution of 1917.  At the time serfs still accounted for 40 percent of the population.  At the time of abolition, the imperial government decreed that former serfs must pay an annual indemnity to their former owners until 1910 in return for their freedom.  The spirit was similar to that of the financial compensation awarded to slave owners when the United Kingdom abolished slavery in 1833 and France in 1848, except that the serfs lived in the Russian heartland rather than on remote slave islands.  Although most payment ended in the 1880s, the episode places the Tsarist regime and Russian Revolution in perspective by reminding us of the extreme forms that sacralization of private property and the rights of property owners sometimes took before World War I (regardless of the nature and origin of the property).”

Given this history, it is not too surprising that a revolution of some sort would occur, and the goal of the new government would be to distribute the accumulated wealth of the nobles widely to form a more egalitarian society.  The communist rule that ensued was ultimately unable to compete effectively with capitalist systems, but initially it did provide a more modern, more efficient, and a much more egalitarian society, although brutality was often required.  Humans will naturally form a degree of hierarchy within their society, but in communist Russia the benefits of rank were not expressed in income but in other types of privileges.

“With the Tsarist regime as point of comparison, the Soviet regime had no difficulty portraying its project as one that held out great promise for the future in terms of both equality and modernization.  And in spite of repression, ultra-centralization, and state appropriation of all property, public investment in the period 1920-1950 clearly did lead to rapid modernization that brought the Soviet Union closer to Western European levels, especially in the areas of infrastructure, transportation, education (and literacy), science, and public health.  Within a few decades the Soviet regime had considerably reduced the concentration of income and wealth while raising the standard of living, at least until the 1950s.”

As the political competition between the Soviet form of communism and the US and Western European form of capitalism progressed, each side hardened its attitudes toward private property, not daring any excursion that might add efficiency, in order to maintain ideological purity.

“Just as the proprietarian ideology of the nineteenth century rejected any attempt to challenge existing property rights for fear of opening Pandora’s box, twentieth century Soviet ideology refused to allow anything but strict state ownership lest private property find its way into some small crevice and end up infecting the whole system.”

The capitalist nations would begin to fear any public ownership as a similar existential threat to private ownership.

“Ultimately, every ideology is the victim of some form of sacralization—of private property in one case, of state property in another; and fear of the void always looms large.”

When the Soviet Union began to falter and eventually disassemble, the capitalists, with their sacralization of private property, did a victory lap.  They were firmly convinced that Russia’s future must immediately involve mass privatization of public entities lest communist tendencies reemerge and “infect the whole system.”  There was clearly pressure on it to proceed in this fashion (the so-called shock therapy).  This path would be disastrous for the Russian people and quickly create, and exceed, the inequalities endemic in other capitalist nations.  Piketty suggests that this approach—and its outcome—may have been welcomed by an influential subset of the Russian population.

“…in less than ten years, from 1990 to 2000, postcommunist Russia went from being a country that had reduced monetary inequality to one of the lowest levels ever observed to being one of the most inegalitarian countries in the world.”

“Russia chose to inflict on itself the famous ‘shock therapy,’ whose goal was to privatize nearly all public assets within a few years’ time by means of a ‘voucher’ system (1991-1995).  The idea was that Russian citizens would be given vouchers entitling them to become shareholders in a firm of their choosing.  In practice, in a time of hyperinflation (prices rose more than 2500 percent in 1992) thar left many workers and retirees with very low real incomes and forced thousands of the elderly and unemployed to sell their personal effects on the streets of Moscow while the government offered large blocks of stock on generous terms to selected individuals, what had to happen did happen.  Many Russian firms, especially in the energy sector, soon fell into the hands of small groups of cunning shareholders who contrived to gain control of the vouchers of millions of Russians.  Within a short period of time these people became the country’s new ‘oligarchs’.”

This march to inequality and crony capitalism was further enhanced by laws and practices quickly put in place by its leaders.  Piketty says it is extremely difficult to determine who has the money in Russia and how much they have.

“This is due in large part to decisions taken first by the governments headed by Boris Yeltsin and later by Vladimir Putin to permit unprecedented evasion of Russian law through the use of offshore entities and tax havens.  In addition, the postcommunist regime abandoned not only any ambition to redistribute property but also any effort to record income or wealth.  For example, there is no inheritance tax in postcommunist Russia, so there is no data on the size of inheritances.  There is an income tax, but it is strictly proportional, and its rate since 2001 has been just 13 percent, whether the income being taxed is 1,000 rubles or 100 billion rubles.”

“According to the classifications published by Forbes, Russia thus became within a few years the world leader in billionaires in all categories…By the 2000s, the total wealth of Russian billionaires listed in Forbes  amounted to 30-40 percent of the country’s national income, three or four times the level observed in the United States, Germany, France, and China.  Also according to Forbes, the vast majority of these billionaires…have done particularly well since Vladimir Putin came to power in the early 2000s.  Note, moreover, that these figures do not include all the Russians who have accumulated not billions but tens or hundreds of millions of dollars; these Russians are far more numerous and more significant in macroeconomic terms.”

Russia’s oligarchs have been very efficient at removing money from Russia and investing it, mainly in real estate, in other countries.  If there is an outrageously priced luxury apartment anywhere, there is likely a Russian billionaire or two waiting to bid on it.  Piketty estimates the amount of money that has been moved out of Russia is mindboggling.

“…the country enjoyed enormous trade surpluses in the period 1993-2018: Russia’s annual trade surplus averaged 10 percent of GDP over this twenty-five year period, or a total of nearly 250 percent of GDP…In principle, then, the country should have accumulated enormous financial reserves…But Russia’s official reserves in 2018 amounted to less than 30 percent of GDP.  Something like 200 percent of Russian GDP has therefore gone missing (and this does not even take into account the income those assets should have produced).”

Oliver Bullough provided a humorous illustration of the extent of kleptocracy in Russia in his book Moneyland: The Inside Story of the Crooks and Kleptocrats Who Rule the World. 

“Luxury watches are popular among officials, since they provide a discreet but effective way of advertising their power.  In 2009, the Russian newspaper Vedomosti mischievously published a compilation of photographs of the watches worn by top officials at public events, noting each one’s price and contrasting that with the declared income of the official in question.  The cheapest watch belonged to the head of the Audit Chamber, costing a mere 1,800 Swiss francs.  The majority were in the $10,000-50,000 range, beyond which a handful of officials had really splashed out.  The deputy mayor of Moscow won both first and second place, with watches costing $1.04 million and $360,000; while Chechen president Ramzan Kadyrov’s watch came third, with an estimated price of $300,000.  The article caused some embarrassment to top officials, which is perhaps why the official photographer photoshopped a $30,000 Breguet timepiece off the wrist of the Patriarch of Moscow as he sat at a highly polished table in 2012.  The photographer neglected to remove the watch’s reflection, however, which both made the Patriarch look ridiculous and also rather undermined his attempts to argue for a return to asceticism and traditional values under the moral leadership of himself.”

Early on, observers were worried that Russia might slip back into a modified form of communism.  They should have been more concerned that a bunch of Russian insiders were tired of playing a losing game and were waiting for the opportunity to take control and throw their weight around more effectively.  Piketty describes the conclusions to be drawn from a series of interviews of Vladimir Putin conducted by the movie maker Oliver Stone in 2017.

“In substance, Putin concluded that only an unambiguous renunciation of egalitarianism and socialism in all their forms could restore Russia’s greatness, which depended above all on hierarchy and verticality in both politics and economics.”

If Russia’s greatness is to be recovered, it will be accomplished via the reduction of other countries’ greatness.  The US seems to be a specific target.  Whatever Donald Trump’s motives, he has convinced US allies that Putin’s Russia, a longtime enemy, is potentially a more reliable ally than the US.  Apparently, Putin has the resources and power to do anything he wishes: invade a country, interfere in elections on a global scale, coerce the president of a country….



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