Updated: Jan 18
Economic growth and inequality - their correlation may be far more complicated than you think. In this article, we will interpret this classic economic argument from a sociological angle.
Capital in the Twenty-first Century by French economist Thomas Piketty has become a surprising bestseller. The 700-page book details more than a decade of Piketty’s research on historical trends in global inequality. His analysis of tax returns and other historical records from the United States and Western Europe led him to conclude that economists like Simon Kuznets have been far too optimistic about the relationship between economic growth and inequality.
Development and Inequality
Kuznets claimed that inequality would inevitably decline at later stages of economic development — the “rising tide” would lift all boats. But Piketty found that long-term trends instead show a tendency toward rising inequality. Kuznets correctly observed that inequality declined in the first half of the twentieth century, but he failed to see that this trend was caused by the economic shock of two world wars and the Great Depression. Piketty’s data show that both before and after this unique period, rates of inequality have been quite high. In many ways, today’s class structure mirrors the rigidly unequal system in place before the first world war.
Piketty’s central theory can by summed up by the expression r > g, where r is the rate of return on capital and g is the rate of economic growth. When the rate of return on capital is substantially higher than the economic growth rate, inherited wealth grows much faster than incomes. This causes capital to concentrate at the top of society and inequality to increase. Piketty argues that this r > g relationship is the fundamental force behind societal inequality. Because this relationship becomes substantially more unequal in unregulated markets, Piketty argues for government intervention.
Piketty’s Solution to Inequality
Piketty’s solution involves a global tax on wealth combined with progressive income tax rates as high as 80 percent. He admits that this policy would require monumental international cooperation and undoubtedly encounter strong resistance from elites. Nevertheless, he argues that confiscatory taxation would curb excessive inequality, prevent future political instability, and “expose wealth to democratic scrutiny, which is a necessary condition for effective regulation of the banking system and international capital flows.”
Unsurprisingly, Piketty’s tax proposals have received much harsher criticism than his historical analysis. Some have criticized his proposal for its lack of feasibility, while others have argued that confiscatory taxation would stifle entrepreneurship. The arguments over Piketty’s proposal reveal deep-seated disagreements about the extent to which inequality is a social problem; few have argued with Piketty’s conclusions about the recent rises in inequality, yet some people don’t see this as a problematic trend — or if it is, they don’t agree on the range of acceptable solutions.
The Systems of Exchange framework explains competing views of inequality. Each system — Price, Moral, Communal, and Associative — is marked by different orientations toward economic exchange and other economic actors, leading to different values around fairness and equality. We can explain how a typical actor in each system of exchange might approach the issue of economic inequality:
In the Price System, actors believe that a certain level of inequality is necessary to drive innovation and entrepreneurship. In a hypothetical society with near-complete income equality, actors may not feel motivated to take personal and economic risks to develop innovative products and services; such efforts would bring little financial gain, so actors might choose to settle into careers where they earn enough to be comfortable but not to attempt to accumulate wealth. As a result, our fictional society would likely lose its competitive edge against other, more stratified societies where at least some people can enjoy the riches that come from accumulating and investing excess wealth. However, a highly stratified society could be toxic for entrepreneurship, too. If most actors perceive few opportunities for upward mobility why have entrepreneurial dreams?
Although Piketty never says it directly, a price logic seems to underlay his approach toward entrenched global inequality. His proposed global tax on wealth would not eliminate inequality; it would merely curb excessive inequality while preserving opportunities for mobility. Thus, the Price System takes an instrumental approach — inequality is acceptable as long as it benefits the economy by neither allowing too much stratification and maybe too little.
The Moral System takes a substantive rather than instrumental view of inequality. Actors may oppose inequality on moral grounds, perhaps founded in religious or philosophical values for justice and fairness. The Price-based debate on the utility of inequality might strike as abhorrent a Moral-driven actor who believes in social justice and equality as fundamental values; the means cannot justify the ends. However, a certain amount of inequality might be tolerated in a system that supports social justice if everyone’s basic needs are met.
For example, the Christian tradition does not seem inherently opposed to inequality; indeed, the Bible recognizes that people will be rewarded according to natural differences in their abilities (Matthew 25:14-30). However, Christian teachings are firmly opposed to poverty, a common consequence of inequality. Jesus encouraged Christians to give away their wealth and help the poor, sick, and hungry. He also reminded his followers that despite differences in their class positions and racial identities, all are equal before God.
Equality is a belief that individuals are equal along at least some dimensions such as holding political rights or having access to economic opportunity. Moral systems, however, are not necessarily based on the value of equality. Indeed there are religious and political systems where inequality is deemed correct and morally justified. Confucianism assumes that social roles differ and that social order is best served when the demands of the role are followed, i.e. being a dutiful son. Caste-based orders assume that it is morally appropriate for high-caste individuals to have greater access to opportunities. Gender divisions in some Islamic societies limit women’s participation in the economy. Morally-based exchange legitimates equality – or inequality.
As with the previous two systems, actors in the Communal System are not inherently opposed to inequality. For them, the key priority is loyalty to the group. Unequal treatment of non-group members is actually quite common; for example, group members may charge higher prices to non-members or limit their ability to exchange with members. Affinity programs that give discounts to members, for example alumni, are a weak version of the communal ethic. Inequality within the group may be tolerated as long as all group members have what they need and if group members are treated better than outsiders.
Ethnic and kinship groups are classic examples of communal systems. Members of these groups often privilege each other in economic exchanges. Power and wealth are not distributed equally among them, but members do feel obligated to care for their own.
Like the Price System, the Associative System is driven by instrumental concerns. Actors form alliances when they believe it will lead to better economic outcomes than going it alone. In this system, inequality among group members is perfectly acceptable as long as members benefit financially from their participation in the alliance.
Japanese business groups and Korean chaebol are examples of Associative Systems. These groups contain a large number of firms, linked together by shared ownership and interdependent financial transactions. Clear status distinctions exist among group members; large firms often form alliances with much smaller firms. However, group membership remains stable because all members expect net financial gains from participation.
The Systems of Exchange framework demonstrates four different orientations to inequality, grounded in various instrumental and substantive concerns. One of the reasons that Piketty has met so much resistance for his proposal to create a global tax on wealth is that readers hold fundamentally different views about when and why inequality should be opposed. Policymakers and activists concerned with growing levels of wealth inequality and income inequality might find it useful to examine citizens’ instrumental and substantive concerns around inequality in order to draft inclusive solutions that are institutionally grounded and legitimate where applied.