07 Jul 2014

## Accounting for Capital and Income

In my latest EconLib article, I first walk through the basics of income and capital accounting. (Even if you think this is standard stuff, you might want to skim it because there are some subtleties.) Then I give three examples of how people often get mixed up about what the empirical evidence means. In particular, I offer a theory to explain why the new Saez-Zucman measure of wealth inequality departs so dramatically from what used to be the gold standard, the Kopczuk-Saez measure (based on estate tax returns).

#### 90 Responses to “Accounting for Capital and Income”

1. Transformer says:

Bob,

I have a question on something you day in that econlib article. ‘It’s important to stress that capital gains are actually income, in an economically meaningful sense.”.

While people often treat capital gains as income (and get taxes as if its income if they realize those gains) I’m not seeing how this works from an economic (as opposed to an accounting) perspective.

Suppose that everyone’s time preference decreases so they start discounting future income at 5% rather than 10%. The value of the capital stock would double (as explained in your article). But if everyone said “great – I’m twice as wealthy now – I can increase my spending on consumption goods as a result of all this capital gains income” then this would result in capital destruction. This clearly is NOT normally what happens when time preference decreases as this will typically lead to increased investment and an increase in the capital stock.

Can you clarify what this “capital gains are actually income” statement means when the capital gains are a direct result of a change in time preference ?

• Bob Murphy says:

Transformer,

Suppose there is an asteroid full of gold that will crash into Earth in 5 years. Right now it has a market value of \$100 billion. Then the estimate of the market price of gold (in 5 years) goes up, so that the asteroid has a market value of \$300 billion. People then consume \$200 billion more, without impairing the market value of their wealth.

Do you agree that this is possible, even though the physical capital stock is depleted this year?

• Transformer says:

The windfall from the asteroid adds to their future income stream. People will discount this to get the present value of that future expected income. They will be able to consume some of their present capital and still increase the present value of their future income streams. The more highly they value the future gold and the less they discount that value, then the more they can increase consumption in the present.

I’m not sure how this relates to capital gains. I suppose if people’s time preference stays the same but they expect their capital to be more productive in the future then this will both increases the present value of this capital and allow them to increase consumption the present.

• Bob Murphy says:

The windfall from the asteroid adds to their future income stream. People will discount this to get the present value of that future expected income. They will be able to consume some of their present capital and still increase the present value of their future income streams. The more highly they value the future gold and the less they discount that value, then the more they can increase consumption in the present.

OK, so now we have the exact same scenario, except that the \$200 billion increase in the estimate of future wealth comes NOT from an increase in the value of gold, but from an increase in the value of future consumption (from a fall in time preference).

• Transformer says:

But that’s exactly my point of confusion:

If the discounted present value of their future income rises because their future expected income has actually increases (like in the asteroid example) then they can consume more in the present.

But If the discounted value of their future income rises just because their time preference has decreased then they will consume less in the present won’t they ? (Some marginal units of present consumption will now be diverted to investment as the future income this generates will now be valued higher).

• Transformer says:

And in both cases I’m not seeing how the increase in capital value can be categorized as income.

• Bob Murphy says:

If the discounted present value of their future income rises because their future expected income has actually increases (like in the asteroid example) then they can consume more in the present.

Look again at the example though: I wasn’t saying, “At first nobody thinks there’s an asteroid, then they realize it’s coming and feel wealthier.”

No, I said, “At first they think the asteroid is bringing \$100 billion of gold, then the price of gold goes up and so the same physical asteroid is now valued at \$300 billion.”

Do you agree that this change in preferences (how they value gold) can allow them to consume an extra \$200 billion today without reducing their wealth?

• Transformer says:

Yes. The present value of their wealth has increased by \$200m so they could spend that and still be as wealthy as before.

• Bob Murphy says:

Transformer I don’t know if this helps, but the bottom of page 533 Rothbard says capital gains are income.

• Transformer says:

A search through that link reveals a much longer discussion on page 1174.

I can see that if a smart businessman buys an undervalued asset and sells it later at a profit then that kind of capital gains is income.

I was thinking more of generalized increase in capital value due to (for example) decreasing societal time preference, or an increase in expected future income from the current capital stock as a result of an exogenous change.

I suppose however that the same logic applies in both cases. Income generated from exploiting capital, and capital gains from revaluations of capital are functionally the same thing from the perspective of the owner (as long as they are measured in real terms).

So they may as well both be categorized as income.

I guess I now understand that statement – thanks.

• Bob Murphy says:

sure, but in case you’re not seeing it: If people decide all of a sudden that they like Broadway shows more, then the capitalized value of NYC real estate goes up, even though nothing “physical” changed. If you see how that type of preference change can trigger a capital gain, then why wouldn’t a fall in time preferences?

• Transformer says:

I think I see it now.

Take your apartment example where the owner get \$100k a year in rent

Time preference changes and the present value of the building goes up from \$1m to \$2m.

His income (including CG) is \$1.1M for that year.

At first I was thinking that with that kind of income he would dramatically increase his current spending. But if he did increase his spending then it would be at the expense of future income. So he will end up saving all the income from capital gains (plus a bit more from rent since his TP has actually decreased).

So it still seems a bit weird to categorize capital gains as income but I do see there is nothing inconsistent about doing so, and it does actually help to clarify the relationship between capital, income, and savings once you have thought it through.

• Tel says:

Unless a lot of people really need gold teeth, or better hi-fi connectors, then the asteroid cannot create capital. Economically speaking, gold is primarily used as something to be exchanged for value, thus the asteroid would merely cause inflation (I.e decrease the price of gold relative to everything else that you can buy with gold).

• Transformer says:

I was assuming that the gold on the asteroid would be quite a small proportion of total gold in existence and that the increase in value from \$100m to \$300m reflected a huge increase in total demand for gold (a new use had been found for it or something).

2. Major-Freedom says:

Sumner made a good point about the futility of fretting over wealth inequality without caveats. This is somewhat amended, but the main point is still there:

Imagine a society of total individual economic freedom, where each individual can accumulate capital through intelligent saving and investment. Assume each individual is exactly equal in terms of expertise and ability (in terms of rate of profit earned).

This society would be characterized by people starting off in their productivr careers at a certain minimum level of wealth (that is itself increasing over time). As they continue to save and invest over time, they get wealthier and wealthier as their saved capital increases. But they also get older. So the relatively wealthiest would tend to be old, and the relatively poorest tend to be young. If we assume a low time preference, and a high savings rate, then we can imagine significant wealth inequality at any snapshot moment in time.

According to the Pikettyians, this is unjust.

Now the crucial point. Yes, the poorest are very much poorer than the wealthiest, but each individual who is currently young and relatively poor will eventually become old and relatively wealthy. Is it really unjust that a person be put through the trials of metaphysical requirement of TIME, which separates them from others who have had less or more time to save, invest, and accumulate capital? Of course not! Wealth inequality would be a function of inequality of time on Earth. This isn’t a social problem, it is a “problem” (if we were to even use such a misleading term) of existential reality. Inequality of wealth exists (in this model) because of inequality of generational starting points, i.e. inequality of the day in history people are born.

Now in actual history, of course, there are a myriad of other factors that can influence wealth inequality. But then if we imagine wealth inequality to be a problem, it is actually not inequality per se (as the above model makes clear), but rather the various CAUSES of inequality that are good or evil.

Time is not evil. Many people in their subconscious disdain mortality and the fact that we must travail through time at. Plotinus, the Hegelians and Marxists are all of this tradition of seeking to overcome human contingency. Their metaphysical battle of course manifests quite often in scapegoating of innocent people. Wealthy people should be punished with theft regardless of the cause of their wealth. The notion of injustice in metaphysical reality then moves to the general idea that very wealthy people by default likely acquired their wealth unjustly. Assume by default it was unjust, and spend years trying to convince the irrationalists that in this case, Mr. Smith acquired his wealth justly. And even that would never work because then we’ll hear that there is injustice in the division of labor (i.e. “production relations”) itself.

Innocent individuals are being attacked because the metaphysical soldiers cannot conquer objective reality.

• K.P. says:

There are “radical egalitarians” who go that far but Piketty doesn’t. He doesn’t attack “inequality per se” just *unjustified* inequalities. Now, he’s pretty abstract about what is just and what isn’t, depending on merit (which he cautions about getting too extreme) and “common utility” (to which he, of course, does not clarify well).

Social justice is a labyrinth, not fretting over it looks like the wise choice.

• Major.Freedom says:

No K.P., Piketty is attacking wealth inequality per se. That is why he is advocating for a global tax on wealth, and not just a global tax on wealth “accumulated via unjust methods X, Y, Z only”.

Piketty wrote:

“In the first three parts of this book, I analyzed the evolution of the distribution of wealth and the structure of inequality since the eighteenth century. From this analysis I must now try to draw lessons for the future. One major lesson is already clear: it was the wars of the twentieth century that, to a large extent, wiped away the past and transformed the structure of inequality. Today, in the second decade of the twenty-first century, inequalities of wealth that had supposedly disappeared are close to regaining or even surpassing their historical highs. The new global economy has brought with it both immense hopes (such as the eradication of poverty) and equally immense inequities (some individuals are now as wealthy as entire countries). Can we imagine a twenty-first century in which capitalism will be transcended in a more peaceful and more lasting way, or must we simply await the next crisis or the next war (this time truly global)? On the basis of the history I have brought to light here, can we imagine political institutions that might regulate today’s global patrimonial capitalism justly as well as efficiently?”

“As I have already noted, the ideal policy for avoiding an endless inegalitarian spiral and regaining control over the dynamics of accumulation would be a progressive global tax on capital.”

He wants to tax wealth, period. He is attacking inequality, period.

• K.P. says:

Are you saying that’s what he *really* means?

As I can provide quotes where he says the opposite.

• Major.Freedom says:

I just proved you a quote that is a condemnation of wealth inequality per se. Not certain unjust causes of inequality.

If there are passages that contradict this, then sure, post away. Not like it’s going to make much difference.

• Philippe says:

he’s clearly talking about extreme and increasing inequality (“an endless inegalitarian spiral”) in that quote.

• Major.Freedom says:

Which would take place in a world of equal abilities and work ethic but with average lifespans / time investing increasing indefinitely as technology continually improves (e.g. endogenous growth model) human well being.

With an average age of 250 years and continually increasing over time, the gulf between (relatively) richest old people and (relatively) poorest young people would continually increase without limit.

Each individual would go through this “endless inegalitarian spiral” that is allegedly dystopic.

Even though a poor young person would expect to become 500 times more wealthy by the time they’re “old”, and the next generation 502, and then 505, etc., we’re nevertheless supposed to believe that there is an undefined, non-concrete, limit beyond which is “extreme” and justifying of theft.

Really Philippe, we’re talking horse shoes and hand grenades here. What is “extreme” is quite frankly arbitrary and subjective.

What is actually unjust is the specific causes that lead to all levels of inequality, not just “extreme”, whatever it is supposed to mean at the time.

• Philippe says:

“Each individual would go through this “endless inegalitarian spiral” that is allegedly dystopic.”

MF,

Piketty isn’t talking about a world in which everyone receives exactly the same amount over their lives. Your example isn’t relevant to his argument.

• Major.Freedom says:

Philippe:

“Piketty isn’t talking about a world in which everyone receives exactly the same amount over their lives. ”

Is this thing on?

I KNOW THAT.

Again, my model is not meant to be a 100% description of past history.

It is meant to show that inequality is not inherently unjust. Not even “extreme” inequality is inherently unjust.

It is to address his call going forward: Attacking inequality per se and calling for a tax on capital regardless of the cause (even if the inequality is due to differences of time invested).

If time invested is a factor of wealth inequality, which you seem to agree it is, then calling for a tax going forward is calling for a tax on wealth in all possible worlds in terms of cause of inequality.

• Major.Freedom says:

Philippe:

It is relevant to his argument, because his argument is a blanket condemnation of inequality.

I am showing that with such blanket condemnations of inequality, he ends up attacking people solely for having invested for a longer time than others.

You need to think more carefully about this. You seem to believe that the only way Piketty’s argument can be engaged, is to assume his advocacy is justified in all possible worlds going forward, thus leading to condemning inequality that is brought about by time invested.

• Philippe says:

“It is meant to show that inequality is not inherently unjust.”

What, in a world where everyone receives exactly the same amount, inequality is not unjust?

Piketty: “Massive and rising inequality is a real problem for our society”.

MF: But in a communist society where everyone receives exactly the same amount, inequality obviously isn’t unjust!

Piketty: So what?

• Major.Freedom says:

Philippe:

“What, in a world where everyone receives exactly the same amount, inequality is not unjust?”

What does it mean to call for tax on wealth in the future?

Isn’t that a call on taxing wealth no matter how it is acquired?

“Piketty: “Massive and rising inequality is a real problem for our society”.”

Time is a real problem?

“MF: But in a communist society where everyone receives exactly the same amount, inequality obviously isn’t unjust!”

That isn’t communism.

Communism is capital owned collectively.

My model assumes individual ownership of the means of production (capital).

It’s literally anti-communism.

If it so happens that people are equal in terms of productivity, that doesn’t suddenly mean the world is communist.

Do you even know what communism means?

• Philippe says:

“My model assumes individual ownership of the means of production (capital)”

Everyone in your example receives exactly the same amount. So their ownership must be equal over their lives too. Everyone has an equal share. Call it socialism then, if you prefer.

• Major.Freedom says:

Philippe:

Communism is collective ownership of the means of production.

It is not a world of capitalism where people happen to be equally productive.

You can have a world of private ownership of the means of production, i.e. capitalism, with people being equally productive.

Being equally productive does not imply communism.

It’s not even socialism either. Socialism is the generic term for collective ownership/control over the means of production.

Communism and Socialism are means to achieving wealth equality (and failing, but that is besides the point). If wealth inequality is had, that doesn’t mean there is Communism or Socialism.

“If A then B” does not imply “if B, then A.”

You’re committing a logical fallacy that I don’t remember the name of right now.

• Major.Freedom says:

Philippe:

Everyone in the model receives the same RATE OF RETURN.

But with a growing capital base for each individual as they become older, the gross amounts become larger and larger per unit of time.

• Philippe says:

each generation receives a bit more than the last over their lives (as lifespans increase), but everyone in a generation receives exactly the same amount over their lives. There is inequality between the old and the young, but the young receive as much as the old over their lives, and more.

No human in your example ever receives less than any other human born at the same time as them or before them.

• Major.Freedom says:

Philippe:

“each generation receives a bit more than the last over their lives (as lifespans increase), but everyone in a generation receives exactly the same amount over their lives.”

If the quantity of money and total volume of spending is assumed fixed, then nominal incomes over a lifetime would be the same for each individual.

But in real terms, everyone is becoming more wealthy in absolute terms (I assumed a very low time preference and high savings/investment rate, which means capital production outpaces capital consumption).

In real terms, each subsequent generation is earning a higher and higher real income because more capital breeds more capital as force is to acceleration. With more capital, more goods can be produced.

“There is inequality between the old and the young, but the young receive as much as the old over their lives, and more.”

Yes, more.

But on any given day, when measurements are made on inequality (which is a cross sectional concept, not a lifetime accumulation concept), there is inequality. The older people can get, the bigger the inequality on a given day.

Those not yet born, but will be born 100 years from now, would, given equal ability, be able to consume more because there is more real capital invested per laborer.

“No human in your example ever receives less than any other human born at the same time as them or before them.”

Yes, that is true.

Still not communism though.

• K.P. says:

Yeah, I don’t see where that is attacking inequality in itself, but here are some of his statements to the contrary:

“Inequality is not necessarily bad in itself: the key question is to decide whether it is justified, whether there are reasons for it.”

“I have no interest in denouncing inequality or capitalism per se—especially since social inequalities are not in themselves a problem as long as they are justified, that is, ‘founded only upon common utility,’ as article I of the 1789 Declaration of the Rights of Man and the
Citizen proclaims.”

“Nevertheless, democratic modernity is founded on the belief that inequalities based on individual talent and effort are more justified than other inequalities—or at any rate we hope to be moving in that direction.”

“I want to insist on this point: the key issue is justification of inequality rather than their magnitude as such.”

At best he’s confused.

• Major.Freedom says:

Thanks K.P. Ya, I kind of skipped past the intro and went straight for the meat in the book in part 3

Blanket taxation of wealth based on inequality in one sentence, and in another sentence he says he is not against the inequality, just specific causes.

Well, why not then advocate for taxing wealth acquired through those certain causes only? At least then he’d avoid that particular contradiction.

I am reading the book from the end to the start.

• Philippe says:

MF you’re assuming only causes can be justified or unjustified.

• Major.Freedom says:

That’s because the concepts “just” and “unjust” apply to our actions.

I am not immoral for being taller than others. I would be immoral for cutting people’s legs off, an action.

I am not immoral for being wealthy. I would be immoral if I stole wealth, an action.

Similarly, effects are the outcomes of actions. Causes include actions. So I assume that that the causes are what are just or unjust, not the material outcomes per se; more than one cause can bring about the same effect.

• K.P. says:

I haven’t been able to read it cover-to-cover myself, I’ve just skipped between chapter until I found ones that could hold my attention. I generally lean to the more obscure, extreme leftist works, at the very least they’re not boring.

I agree that taxing, say, certain occupations more so than others would be more consistent than blanket (global) taxation.

I think Piketty would say at a certain point it doesn’t matter. Once the wealth level reaches a certain height it doesn’t matter how it was obtained (or that inheritance itself is unjust); it will now perpetuate itself, eventually destabilizing social cohesion and destroying democracy.

“It is difficult to accept that the owners of capital—some of whom have inherited at least part of
their wealth—are able to appropriate so much of the wealth produced by their labor.”

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

“Whatever one thinks about the fundamental legitimacy of income inequality, the numbers deserve close scrutiny. It is hard to imagine an economy and society that can continue functioning indefinitely with such extreme divergence between social groups.”

I can see why one would see him as being against inequality per se, as justice appears to take a back seat once wealth reaches level X. I’m sure we can find a way to rectify the two: global taxation on wealth AND occupational “sin” taxes!

3. Philippe says:

“According to the Pikettyians, this is unjust.”

I haven’t seen any supporters of Piketty (or Piketty himself) argue that it is unjust for old people to be wealthier than young people.

• Major-Freedom says:

I was referring to the inequality per se between individuals, which is held as unjust by the Pikettyians.

The young and old is just an example of how the population can be split into unjust “poor” and “rich”.

• Philippe says:

Piketty doesn’t say that it’s unjust for some people to have more wealth or a higher income than others, or that Inequality between individuals is unjust per se.

I’m sure he would agree with you that if a person works for 40 years it is not unjust for them to own more wealth than someone who has never worked.

• Major.Freedom says:

Philippe I never said Piketty was comparing someone who has worked for 40 years and someone who has never worked and concluding the inequality between the people in this example is unjust…

Inequality per se, based on the alleged constancy of r>g, is what is unjust to Piketty. Sure, if you ask him point blank if a person who has never worked should have as much wealth as someone who worked for 40 years, he’ll likely say no. Nothing about what I said would suggest otherwise.

It is the attack on inequality as such from which I am making a response. Piketty is telling us that inequality as such is what we have to worry about. Not loafers versus hard workers.

• Philippe says:

“Inequality per se, based on the alleged constancy of r>g, is what is unjust to Piketty.”

Piketty doesn’t argue that everyone should have the same wealth or income, so it’s incorrect to say that he is opposed to ‘inequality per se’.

Here’s what he writes in the introduction:

“When the rate of return on capital exceeds the rate of growth of output and income, as it did in the nineteenth century and seems quite likely to do again in the twenty-first, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on which democratic societies are based. There are nevertheless ways democracy can regain control over capitalism and ensure that the general interest takes precedence over private interests, while preserving economic openness and avoiding protectionist and nationalist reactions. The policy recommendations I propose later in the book tend in this direction. They are based on lessons derived from historical experience, of which what follows is essentially a narrative.”

• Major.Freedom says:

I never claimed that Piketty wants everyone to have exactly equal wealth.

• Major.Freedom says:

Piketty is against wealth inequality per se, but is willing to settle on some inequality because it would be absurd, and impossible, to force exactly equal inequality.

Again, this is possible for him because his war is against reality. Humanity will have to “settle” for some “degradation.”

4. Raja says:

I believe MF was talking about large wealth inequality and not about the difference in age.

• Philippe says:

• Raja says:

MF is saying Piketty supporters do to not like inequality of wealth. Period. He never says that supporters or Piketty care about age.

He’s giving a hypothetical example where “time” is the only factor that determines the reason for this inequality. Time is neither good nor evil. In the example it is the condition thrust upon man by arbitrariness of time that determined wealth of a person, not that unjust means were used in procuring it. And the problems arise due to not realizing this objective fact.

If I get the above summary right, I deserve a pat on the back. We’ll find out soon enough 🙂

• Major-Freedom says:

Yes Raja, your assessment is accurate.

Philippe is missing the mark. The age is but an example of how inequality is brought about, or based on, etc. The inequality itself is what is being labeled by Piketty as a problem.

If Philippe can understand that TIME is a factor that leads to inequality in the form of rich seniors and poor adolescents, and we can all agree that time is not evil, then inequality cannot possibly be a social problem that requires rectifying.

We can take this even further. Imagine that the same assumptions I made above about economic freedom, and time invested, etc, but now expand upon the time element. If technology progresses in healthcare and biological well being such that the average age of a person rises to 100 years, 120 years, etc, then this would lead to very very substantial inequality as the time invested and capital accumulation would be very substantial. Inequality (between old and young) would be viewed by the Pikettyians as worthy of social revolution, of pitting young people versus old people as antagonistic. Children of the Corn sh*t.

• Philippe says:

See my comment above.

• Major.Freedom says:

See mine.

• Philippe says:

“In the example it is the condition thrust upon man by arbitrariness of time that determined wealth of a person”

No, ‘time’ does not magically make people wealthier in MF’s example. People work, save and invest. They don’t sit around waiting for ‘time’ to somehow put numbers in their bank account.

• Richie says:

M-F, don’t waste your time on this guy.

• Major.Freedom says:

He could have been you had you not been exposed to the requisite education.

• Philippe says:

• Major.Freedom says:

• Raja says:

“where each individual can accumulate capital through intelligent saving and investment. Assume each individual is exactly equal in terms of expertise and ability (in terms of rate of profit earned).”

Because of the above assumptions in MF’s statement it IS the case that time makes people richer, or more accurately time is the only variable left. It’s the lowest denominator.

• Philippe says:

how does time make people richer?

• Major.Freedom says:

Time does not MAKE people richer, as if time on its own can force people to become wealthy.

Time is a factor of action that explains inequality given the assumption that everyone is otherwise exactly alike in terms of investment ability/foresight and work ethic.

Again, assume two people, starting with \$1000 of wealth each.

Assume each are exactly equal in terms of productivity and investment ability, e.g. they both can accumulate 10% in wealth per year.

Assume they differ in birth dates.

Person A is born 1950.

Person B is born 1990.

In 2014, Person A has invested for 64 years. Their wealth is \$1000*(1.10)^(64) = \$445,791.56

In 2014, Person B has invested for 24 years. Their wealth is \$1000*(1.10)^(24) = \$9,849.73.

As of this moment in time, there is large “wealth inequality.” Person A is about 45 times more wealthy than Person B, even though they are both exactly alike in terms of investment ability and work ethic.

Two people working equally as hard and equally as smart, and yet Person A is 45 times more wealthy than Person B.

According to Piketty, Person A should be heavily taxed, and Person B should be given the loot.

• Major.Freedom says:

Slight modification. Assume the 1950 and 1990 years are the years that they start making investments (reaching “working age”). Newborns of course cannot invest! Nothing of substance changes otherwise…

• Philippe says:

you’ve made the assumption that everyone will be equally rich at each stage of their lives (everyone will have x amount at age 25 and y amount at age 65. So there are no poor people in your world, and everyone gains the same amount of wealth over their lives.

Nice assumption, but it has nothing to do with the real world analysed by Piketty.

• Major.Freedom says:

Philippe:

Piketty is not attacking absolute poverty. He is attacking relative poverty.

What is happening right now is that you are realizing that inequality is not mutually exclusive to absolute prosperity for the relatively poorest, and you’re realizing that wealth inequality at any given moment in time is not sufficient grounds for injustice nor advocating for widespread theft from the “future” (older) version of people.

• Major.Freedom says:

Piketty isn’t calling for a wealth tax that excludes old people who’ve spent a life investing and accumulating capital. No, he’s calling for a wealth tax PERIOD. Even if a person saves and invests their entire lives, and becomes very relatively wealthy, Piketty wants that person to be robbed.

• Major.Freedom says:

Philippe:

Also, my model that assumes equal ability and work ethic isn’t meant to be a mirror description of Piketty’s worldview. So telling me that the model isn’t what Piketty wrote is way off base.

The purpose of my model is to show that attacking wealth inequality in the blanket way Piketty is doing (by advocating for a wealth tax, period) is misguided.

• Major.Freedom says:

Philippe:

If you will grant Piketty to call for a wealth tax in the future, which of course means ALL POSSIBLE FUTURE WORLDS, then you should permit me to talk about a possible world that just so happens to not match past history, thank you very much.

• Philippe says:

your imaginary world is basically communist. Everyone receives exactly the same amount of money over their lives!

• Philippe says:

“wealth inequality at any given moment in time is not sufficient grounds for injustice nor advocating for widespread theft from the “future” (older) version of people”

Well even if there was a simple flat tax, wealthier older people would still pay more than poorer younger people.

• Major.Freedom says:

Philippe:

“your imaginary world is basically communist.”

No Philippe, it’s not “my” world. It’s a world that shows time to be a factor of wealth inequality.

Assuming equal investment ability and work ethic is purposefully made in order to isolate the effect that investing for shorter and longer periods of time have on wealth.

“Everyone receives exactly the same amount of money over their lives!”

Yes, and at any given time, there is wealth inequality between people.

“wealth inequality at any given moment in time is not sufficient grounds for injustice nor advocating for widespread theft from the “future” (older) version of people”

“Well even if there was a simple flat tax, wealthier older people would still pay more than poorer younger people.”

Yes.

• Philippe says:

MF

in your example no one receives a net benefit or a net loss from taxation, as everyone pays exactly the same amount of tax.

• Philippe says:

*over their lives

• Major.Freedom says:

Philippe:

In my example there are no taxes.

• Major.Freedom says:

“your imaginary world is basically communist. Everyone receives exactly the same amount of money over their lives!”

It’s not actually a world of communism Philippe. It’s nto a world of “from each according to his ability, to each according to his need”, despite productivity differences.

It is a world where people are actually identical in productivity.

Communism is a world where all wealth is owned in common (on paper) but where the exercise of powers over capital must be made by a select few people (mob rule, dictatorship rule, etc).

At any rate, the assumption that even with equal ability wealth inequality will be increasing as the time invested increases, can be relaxed, where people differ in their productive abilities, but then that would only make inequality greater. I was purposefully assuming equal ability in order to isolate time as a factor of
“extreme” inequality (if differences of time invested are “extreme”).

If you add productivity differences to the mix, then “natural” inequality would be even greater. It’s all to the point I am making here.

• Philippe says:

Everyone in your example receives exactly the same amount. So their ownership must be equal over their lives too. Everyone has an equal ownership share. Call it socialism then, if you prefer.

“Communism is a world where all wealth is owned in common (on paper) but where the exercise of powers over capital must be made by a select few people”.

Communists would argue that is not (necessarily) true, although that’s what happened in the USSR.

• Major.Freedom says:

Philippe:

“Everyone in your example receives exactly the same amount. So their ownership must be equal over their lives too.”

But their ownership is not equal on a given day.

“Everyone has an equal ownership share.”

No, that is false. Older people have a far greater share in my model.

“Call it socialism then, if you prefer.”

I don’t prefer that, because it’s wrong.

“Communism is a world where all wealth is owned in common (on paper) but where the exercise of powers over capital must be made by a select few people”.

“Communists would argue that is not (necessarily) true, although that’s what happened in the USSR.”

Communists typically don’t understand Communism.

• Philippe says:

“In my example there are no taxes”

if you introduce taxes into your example, everyone pays exactly the same amount of tax and receives exactly the same income.

You laid out your example and then stated:

“According to Piketty, Person A should be heavily taxed, and Person B should be given the loot”.

But in your example everyone pays exactly the same amount of tax and recieves exactly the same income.

Doh!

• Major.Freedom says:

Philippe:

“In my example there are no taxes”

“if you introduce taxes into your example, everyone pays exactly the same amount of tax and receives exactly the same income.”

No, that’s false, because as people get older, the gross amount of their income increases (due to earning the same rate of return on a growing capital base).

With a higher gross income, a flat tax rate would result in more taxes paid by older people.

“You laid out your example and then stated:”

“According to Piketty, Person A should be heavily taxed, and Person B should be given the loot”.”

“But in your example everyone pays exactly the same amount of tax and recieves exactly the same income.”

“Doh!”

Hahahaha

Double d’oh for you!

• Philippe says:

“No, that’s false, because as people get older, the gross amount of their income increases (due to earning the same rate of return on a growing capital base).”

If lifespans don’t increase then everyone pays exactly the same amount of tax and receives exactly the same income over their lives. People pay more tax when they are older, but receive more income when they are younger. Overall everyone pays and receives the same amount.

If lifespans increase then each generation pays a bit more tax but also receives a bit more income.

• Philippe says:

“but receive more income when they are younger”

I mean from government spending out of taxation or transfers.

• Major.Freedom says:

Philippe:

“If lifespans don’t increase then everyone pays exactly the same amount of tax and receives exactly the same income over their lives.”

Assuming there are taxes, yes.

“People pay more tax when they are older, but receive more income when they are younger.”

They receive more income when they are older, not younger.

“Overall everyone pays and receives the same amount.”

Yes, over their lives.

“If lifespans increase then each generation pays a bit more tax but also receives a bit more income.”

In real terms, yes.

In nominal terms, total taxes collected remains fixed, since total spending is assumed as fixed and the tax rate doesn’t change.

“but receive more income when they are younger”

“I mean from government spending out of taxation or transfers.”

OK. I was using “income” to describe money earned, not transferred.

With a flat tax, there would still be wealth inequality between old and young.

• guest says:

Philippe,

Keep in mind that the whole point of MF’s thought experiment is to answer your question about how time makes people richer.

All else being equal, mere time will create wealth inequality.

Such that, in no possible world could there ever exist wealth equality. Therefore, to attempt to fight wealth inequality, per se, is to attempt to fight reality.

Time is an important concept in the Austrian school because not all preferences can be satisfied simultaneously.

Tom Woods lecture on Praxeology

Praxeology – Episode 8 – Time

Basic Economics Lesson 4 – Time Preference, Interest Rates, and Production

• Major.Freedom says:

Thank you guest for posting that source.

Yes, it cannot be overemphasized how important time is to not only Austrian theory, but economics as such (and snarkily I will honestly say that those two are synonymous).

Lacking a rigorous integration of time leads to all sorts of confusions and flawed thinking in economics.

The infiltration of economics by scientism and positivism borrowed from physics and chemistry has resulted in a heavy usage of mathematical equations. Mathematical equations are by their structure static. Even DSGE models that include time as a component, once written/typed as is, thereby “crystalize” relations between factors as unchanging, constant, static.

Human knowledge cannot be modelled this way. Any attempt to model knowledge in this way, would invariably include the underlying presumption of the usage of the model that knowledge will improve, that is, change, unpredictably so. That is the whole point of doing such modelling (and testing).

As soon as the human mind has thought of a concept that was previously opaque and unknown, the mind has already transcended it to become more than the concept. It is always concept plus. Try it. Claim to learn of a constant causal relationship model that describes your present mind, and you will invariably be presuming your mind to have changed because of it, thus rendering the constancy model obsolete.

Knowing this fact is knowing something true about human knowledge: that the approach of positivists is a self-contradictory one.

It should not be surprising that no economist has ever discovered a constant of human action, the way physicists and chemists have discovered such constants as the speed of light in a vacuum, the fine structure constant, Avogadro’s constant, elementary charge, etc, etc.

One would expect that if positivism is all it’s cracked up to be in economics, then surely a practitioner among many thousands over many decades of research would have found just ONE constant.

Has empirical falsification in economics not been empirically falsified enough times? That is a trick question by the way, because if you look at empiricism in detail, you will learn that it does not apodictically rule out or rule in ANY theory of constant relationships between variables. No matter how many times a theory is falsified or confirmed, it leaves open the possibility that previously uncontrolled variables may have prevented the stated relationships from being observed even though the stated relationships are true.

• Major.Freedom says:

Philippe, why did you completely ignore my explicit in your face assumption about each individual’s productivity being equal?

I made that assumption in order to isolate time as a factor. I didn’t say it was the only one. It is the one that explains why there would be wealth inequality even in a world where every individual is equally productive and earns the same rate of profit on capital invested.

5. Gamble says:

Us low income earners have realized a problem. When we try to *trade* wages for services, such as a 15 dollar an hour production job traded for a sprinkler repair man who charges 15 per hour, there is not enough for taxes. So taxes get paid and repairs are neglected or we waste all of our time doing a repair we are not proficient at.

Great system.

6. Major-Freedom says:

Hey Murphy, you might find this interesting, if not ironic (and perhaps expected?)