R is Likely Not Greater than G

Thomas Pikkety, the famous economist who broke international headlines when his economic treatise, Capital In The 21st Century, became a global best seller, has some things to say about wealth inequality. Pikkety’s argument is simple: The rich are already rich, and will continue to get richer until they have everything that’s left. His thesis is also simple: R, or the rate of return on capital, exceeds G, the growth rate of the economy. In other words, r > g. An important assumption he makes, however–that families will continue to become wealthier and become the modern day equivalent of oligarchs–is just plain wrong.

As a study published in the Cato Journal notes, “this logic holds true only if the wealthy never dissipate their wealth through spending, charitable giving, taxation, ill-advised investments, and splitting bequests among multiple heirs.”

The Cato study looks at the Forbes list of the top 400 hyper-wealthy individuals in the world. Their research suggests at least half–and oftentimes more–of the people in the top 400 list are wealthy because of earned income, not inheritance. In fact, according to Forbes itself, the number of earned billionaires on the list has increased over time, and is at an all time high. The wealthy are getting rich because they produce things other people want. As transactions in a market economy are voluntary, any interaction between a producer–say, someone on the top 400 list–and a consumer, like you and me, is mutually beneficial. In other words, their wealth has made them better off, but as no one forces us to consume their products (and we only consume when we feel as though it will make us better off), their wealth has made us better off, too. Greg Mankiw makes a similar argument in his interesting paper, “Defending the One Percent.

The Washington Post also has an intriguing article on this, which states that, in 1992, inherited wealth made up 27% of the wealth the 1% had. Over time, this percentage fell; in 2007, that number was a mere 14.7%. Not only that, but the percentage of households reporting an inheritance transfer fell by 2.7% over the time period between 1989 and 2007.

What is also interesting is that inheritance may have a dampening effect on inequality. As a large percentage of wealth transfers are among middle class households, if we were to eliminate inheritance, inequality would increase. As a study by the BLS notes, “Our simulations show that eliminating inheritances … actually increases overall wealth inequality and, in particular, sharply reduces the share of the bottom 40 percent of the wealth distribution.”

So, in sum, most wealthy families do not inherit their wealth–they earn it, which benefits everyone; inheritance mainly benefits the middle class; and the number of people who earn their wealth as opposed to inherit it has increased over time, which poses a problem for Pikkety’s argument. And one last point: If r > g, and if that means, over time, the rich get richer and the poor get poorer, why is poverty at record lows when inequality has skyrocketed?

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