Thursday, April 24, 2014

What's Next After Piketty's Book?

Thomas Piketty's book has done what no other economics book has done.  It has become the number one best seller at Amazon.  It has clearly touched on a sensitive nerve.  Inequality has been rising everywhere, but economic theory does not have a good explanation for this phenomenon.  Even worse, there are theoretical reasons for believing that it should not happen.  The issue of income distribution has been placed in the backwater of the economics profession.  This raises a question about Piketty's book.  Will economists continue to ignore the issue, or will it have an impact on research and theory?  At a deeper level it raises a question about capitalism itself.  That is, can it be shaped to provide a more equal distribution of income.   Piketty's solution is to use tax policy to deal with the fundamental contradiction between the return on capital and the return on labor income.  That may not be easy in countries like the US.  We have reduced taxes on investment income and the inheritance tax has been cut dramatically.  In particular, stock ownership can be passed on from one generation to the next so that there is no tax on the increased value of the stock.  Someone who purchased a share of stock for $50 dollars, that has doubled in value to $100, passes that stock on to an heir at the current market value.  No tax has been placed on the capital gain, and if the new owner sells the stock for $110 dollars, a tax will placed only on the $10 gain.

Piketty's book may also increase the focus on institutions in economics.  For example, corporate executives have accounted for much of the increase in income inequality.  Corporate boards have made the compensation changes that are responsible for the rapid increase in executive compensation. Therefore, it is impossible to understand the issue of increasing income inequality with looking at the issue of corporate governance.  

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