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Income distribution: where should we start ?

September 26th, 2015

Here’s another draft extract from my book-in-progress, Economics in Two Lessons, looking at income distribution. The entire draft section on this topic is available here. And the introduction, describing the general approach of the book is here.

Praise is welcome, and useful criticism even more so. As a reminder, this is an extract. If you think a crucial point has been missed, point it out, but bear in mind that it may be addressed elsewhere in the book.

If we are going to consider changes in the distribution of income and wealth, what should we take as our starting point? There are various possibilities, many of which are of theoretical interest, but not of much practical use.

Hazlitt doesn’t spell out the starting point for his analysis. However, his analysis is based on the implicit claim (spelt out in more detail by Bastiat) that there is a natural distribution of private property rights, that exists prior to any government activity such as taxation and the payment of welfare benefits.

This is nonsense. It is impossible to disentangle some subset of property rights and entitlements from the social and economic framework in which they are created and enforced.

The ordinary meaning of “property” refers to a specific kind of control over resources, most completely realised in freehold ownership of land. Freehold land can, with limited exceptions, be used as the owner sees fit, and freely sold, rented out or otherwise disposed of. In the idealised model which forms the basis of much thinking about property, all property is of this kind.

Most of the time, we take the existing allocation of property rights for granted. This is, however, an example of exactly the fallacy pointed out by Bastiat, that of focusing on what is seen and ignoring the unseen alternatives. All property rights began with a social decision to create and enforce someone’s right to use a particular good, asset or idea, and to regulate the way in which that right might, or might not, be transferred to others. [In societies without a formal state structure or legal system, these decisions may be made through custom or consensus. In modern societies they are made by governments and courts].

In some of the cases discussed in Section 2, such as those of telecommunications spectrum and fishing quotas, the rights were created relatively recently, and the process by which they were created is well documented. In somewhat older cases, such as that of the 19th century innovations which created limited liability corporations, the history has been forgotten by all but a few specialists. Going even further back, property rights in land and in ordinary goods (chattels, in legal parlance) are mostly taken for granted, even though they are all derived, in the final analysis, from a socially-created legal framework.

In any society, people have views about what property rights are legitimate and, in particular, what they themselves are entitled to. These views may or may not match the property rights that actually prevail in that society. For example, workers commonly regard of their job as belonging to them, in some sense. In some places, this perception is supported by laws prohibiting unfair dismissal. In the US, by contrast, the doctrine of employment at will means that the job is the property of the employer.

Propertarians like Hazlitt want to pare back government to the minimum necessary to protect the property rights of which they approve. These include rights over land and houses, private sector financial assets and personal possessions. Other rights, currently enforced by government, should, in their view, be abolished.

There are two main difficulties with this.

First, propertarians disagree among themselves as to which government functions should be retained, and which property rights should be maintained. For example, some support core government functions like police and fire services while others want these to provided, on a market basis, to those willing to pay for them. Similarly, some propertarians, support the idea that the creators of ideas should have unlimited ‘intellectual property’ in those ideas, while others believe that ‘information ought to be free’.

Moreover, while propertarians almost invariably oppose ‘welfare’ benefits paid out of tax revenue, such as social security, there is no clear dividing line between these benefits and contractually obligatory payments such as pensions for public and private workers.

The fine distinctions between Austrians, minarchists, objectivists, and anarcho-capitalists are too complex and tedious to be detailed here. The point is that any attempt to define, on the basis of logical first principles, a ‘natural’ set of property rights, independent of government, runs rapidly into quicksand.

The second problem is that any attempt to strip all rights and entitlements back to a minimal set corresponding to a naive notion of ‘private property’ would not produce anything like the existing distribution of private property rights. Some kinds of private property would become much more valuable, and others much less so. An example can be seen in the mass privatisations that followed the end of Communism in Russia and other countries in the former Soviet bloc., These processes greatly enriched a handful of oligarchs and greatly impoverished everyone else, leading to the loss of the little .

It is impossible to describe a proposed starting point based on such a radical change with any accuracy. So, we can’t really say what the opportunity cost of shifting property rights from one person to another might be in such a situation.

It makes sense, therefore, to start thinking about the initial allocation with reference to our actual position rather than to some or other theoretical ideal.

In most modern societies, governments collect a substantial proportion of national income in taxation revenue. Some of this revenue is spent on the provision of public services, and some on ‘transfer payments’ such as social security, unemployment and disability insurance, and assistance to poor families.

The starting point therefore includes both the existing set of property rights of workers, the employment position of worker and the rights and obligations of members of the community to receive government services and benefits and to pay the taxes necessary to finance those services and benefits.

1.1.3 The opportunity costs of redistribution

There are many policy changes that will improve the starting position for some members of the community. Examples include

(A) Reducing marginal rates of income tax above some income level, which will benefit those with taxable incomes above that level.

(B) Increasing the duration of intellectual property rights such as copyrights and patents, which will benefit the owners of those rights

(C) Increasing the number of publicly funded places in colleges and universities, which will benefit the young people who are enable to attend

(D) Increasing social security payments and unemployment insurance, which will benefit those who are unable to work because of age or inability to find a job

(E) Increasing the minimum wage

Over the past 40 years, we have seen substantial changes of types (A) and (B) in the United States and elsewhere around the world. The top marginal rate of income tax has been reduced from … to … . The maximum term of copyright protection has been extended from … Other measures, such as the use of ISDS provisions in trade agreements, have created a variety of new and expanded property rights for corporations.

By contrast, there have been few changes of types (C), (D) and (E). On the contrary, public funding of universities has been reduced, eligibility for social security has been tightened and the real value of the minimum wage has been reduced.

This outcome reflects the logic of opportunity cost. To finance increased expenditure on some goal or to reduce the taxes paid by one group, the government must find offsetting cuts in expenditure or increased taxes elsewhere, or else accept a larger deficit, incurring a debt that will have to be serviced in the future. The least unattractive of these options, as evidenced by the choices of policymakers, will constitute the opportunity cost of providing the benefit.

Creating new property rights or extending old ones provides the owner with control over resources, including ideas, that were previously accessible to all. Users other than the owner will either be excluded from the resource or will have to negotiate terms with the owner; the associated costs represent the opportunity cost.

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  1. Megan
    September 26th, 2015 at 12:30 | #1

    This paragraph seems to just trail off, the last sentence is incomplete (?):

    The ordinary meaning of “property” refers to a specific kind of control over resources, most completely realised in freehold ownership of land. In the idealised model which forms the basis of much thinking about property

  2. Ivor
    September 26th, 2015 at 12:30 | #2

    As explained earlier – opportunity costs are too vague and susceptible to different interpretations and uses to provide a base for this project. Opportunity costs are manipulated by subjective considerations. Actual costs in the long-run are objective facts.

    in any case; are all these excepts just calling for a different form of capitalism?

    Is that the message? or intent?

  3. Ikonoclast
    September 26th, 2015 at 12:52 | #3

    I would like to see covered the overall issue of returns to capital compared to returns to labour. Starting from our current extant system, as J.Q. advocates, we could explore the issue of increasing returns to labour back to higher known historical levels.

    This post contains a graph of “Real Rentier Income” to “Real Labour Income” from 1954 to near present. Is it an accurate picture of this development in late stage capitalism as it is really working on the ground? I leave the professional economists to comment.

    http://triplecrisis.com/returns-to-labor-vs-financial-ownership/

  4. John Quiggin
    September 26th, 2015 at 13:39 | #4

    @Ikonoclast

    Unfortunately, there’s not enough detail given to assess the accuracy of the graph. I’m sceptical, given that most data sets show US inequality at low levels from 1945 until about 1980, whereas this graph implies a steady increase.

    @Megan

    I think the sentence was supposed to take property in land as the ideal type or something like that. I’ll fix it.

    @Ivor

    in any case; are all these excepts just calling for a different form of capitalism

    Since all actually existing economies in the past couple of centuries have embodied one form of capitalism or another, the answer is “Yes”.

  5. Collin Street
    September 26th, 2015 at 14:12 | #5

    You should probably talk about property rights being created by society, not government; for a lot of people, “government” only means “governmental structure of a state”, with the continuous-negotiation structures you find in non-state polities excluded from the label.

    “Nomadic pastoralists recognise structures for determining society-wide aims and approaches that we can reasonably call ‘government'” isn’t an argument you need to win, so it’s not an argument you need to have.

  6. John Quiggin
    September 26th, 2015 at 14:38 | #6

    @Collin Street

    Agreed. This came up in an earlier discussion and I neglected to fix it. I’ve made some changes, and picked up the dangling sentences noted by Megan.

  7. Ivor
    September 26th, 2015 at 15:28 | #7

    @John Quiggin

    Since all actually existing economies in the past couple of centuries have embodied one form of capitalism or another, the answer is “Yes”.

    How so? Is this the standard fallacy of confusing free markets and private enterprise with capitalism – something entirely different?

    Its an old, well-trodden story ….

    Different Capitalism ????

  8. John Quiggin
    September 26th, 2015 at 15:51 | #8

    @Ivor

    Economies dominated by free markets and private enterprise represent one form of capitalism, but, as your link implies there are plenty of others – financialised capitalism of the type now prevailing, crony capitalism (overlaps with previous), Soviet-style state capitalism, social democratic mixed economies and so on. As ought to be clear, I’m a supporter of the last of these.

  9. Gavan McDonell
    September 26th, 2015 at 16:09 | #9

    John,
    Could I suggest you might like to examine the approach to standard economics view of economics, and the current situation of democratic capitalism set out by the distinguished German economic sociologist Wolfgang Streeck notably in his most recent book ‘Buying Time’

  10. James Wimberley
    September 26th, 2015 at 17:24 | #10

    “Russia and other countries in the former Soviet bloc”. SFIK the full oligarch system only flourished in Russia and possibly Ukraine. The voucher privatisation in CZ certainly failed to distribute the wealth widely, but where are the oligarchs? The process was different again in Poland, the Baltics and Hungary. The ” stans” are run by Big Men. Either research this or limit to Russia.

  11. hc
    September 26th, 2015 at 18:12 | #11

    No moves such as (D) have been strengthened as have (A).

    One argument that implicitly reflects the optimal income tax literature but more directly targets the idea that transfers have been targeted more efficiently since the 1960s is the idea that increasing transfers has been a substitute for high MTRs. The move is efficiency-improving for the well-to-do – it provides a cheap form of social insurance.

    https://uwaterloo.ca/economics/sites/ca.economics/files/uploads/files/gonzalez-wen_2013.pdf

  12. Ivor
    September 26th, 2015 at 19:21 | #12

    @John Quiggin

    OK, so it seems you are Marxist-naive.

    Your “Economies dominated by free markets and private enterprise” do not “represent one form of capitalism, “.

    Instead, these things – free markets and private enterprise – represent market socialism and cooperatives. You need something extra to get capitalism.

    Similarly you will find that statements such as “Since all actually existing economies in the past couple of centuries have embodied one form of capitalism” are just as flawed.

    For example Yugoslavia. Where is there any capitalism in the Associated Labour Act which has been available English for some time?

    Associated Labour Act

    Where was there capitalism in Czechoslavakia, Rumania, Bulgaria, East Germany?

  13. sunshine
    September 27th, 2015 at 11:49 | #13

    I like Collins point at #5 . Some form of society/government has always been with us .It has helped us as a species rule the world. Without agreements like those we would only be human in a biological sense and would have become extinct long ago .We are great at trust ,sharing, and cooperation. Now a few want to hog the riches which have resulted from eons of human effort .

  14. John Quiggin
    September 27th, 2015 at 12:44 | #14

    Ivor, I don’t think arguing about definitions is going to get us far. If you define capitalism narrowly, I’m arguing to replace it with something else. If you define capitalism broadly, I’m arguing for a different form.

    I assume you’re familiar with the interminable debates on whether the countries you mention were state capitalist, deformed workers’ states or some other formulation determined by one groupuscule or another. Wikipeida covers most of the ground

    https://en.wikipedia.org/wiki/State_capitalism

    If you want to discuss this point further, please take it to the sandpits.

  15. Ivor
    September 27th, 2015 at 13:24 | #15

    @John Quiggin

    All science, and useful social action, proceeds from clear definitions.

    Maybe it is worth examining elsewhere.

    You can forget about previous debates – they were barren and constipated at the same time.

  16. John Quiggin
    September 27th, 2015 at 13:46 | #16

    I’ve opened a new sandpit now. Please take further discussion there. On “barren and constipated”, I agree.

  17. Ikonoclast
    September 27th, 2015 at 15:02 | #17

    Given that you talk about property rights (and correctly so) then it might be worth talking about the idea of private personal property versus productive (income producing) property. It is disparities in ownership of income producing property which produce much of our current income inequality. Increasing disparities in quantities of private personal property tend to follow on from this. Clearly, disparities in direct earned income exist too but these do not generate nearly the inequality created by disparities in ownership of income producing property.

    The key question is how to address this issue without impeding incentive, innovation and investment. The other side of the issue is to consider whether high centralisation of ownership does in fact, in its own way, impede incentive, innovation and investment in what society as a whole needs most. I think it is very clear that high centralisation of ownership (vested interests in few hands) contributes to the obstruction of progress. The whole set of climate change and energy system related problems clearly illustrates this.

  18. Empower
    October 2nd, 2015 at 12:02 | #18

    Suprising a chat on income inequality does not get to one of the root causes – particularly one where the trends are headwinds. Democracy continues to be eroded by more dominant lobbies. When jail owners can lobby for stiffer penalties, then we do have a problem. Power inequality has to be part of the solution.

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