Lecture 7: The regulation of capital and inequality (Tuesday January 21 st 2014)

1. Economics of Inequality(Master PPD & APE, Paris School of Economics)Thomas PikettyAcademic year 2013-2014 Lecture 7: The regulation of capital and inequality (Tuesday January 21st2014) (check on line for updated versions)

2. The world dynamics of the wealth distribution • It is more and more difficult to studywealthinequalityat the national level: one needs to take a global perspective • In the long run, in case r – g ↑ at the global level, then world wealthinequalitywill↑ • Other important force: in today’s global capital markets, r mightwellvarywithwealthlevel w, i.e. r=r(w) (scaleeconomies in portfolio management and/or risktaking) (≠ perfect k market: everybodyreceives r = world FK) • See data from Forbes rankings and universityendowments on varying r = r(w)

8. Data on universityendowments: muchhigherqualitythan Forbes data on individualwealth • ≈ 800 universities in the US, withaverageendowment ≈ 500 millions $: aggregateendowment≈ 400 billions $ in 2013 • This is << than global wealthbillionaires (≈ 5500 billions $, i.e. 5,5 trillions $ = about 1,5% of world wealth≈ 350-400 trillions $) • But at least universitiesprovideverydetailed data on theirporfoliostrategy and observed rates of return

11. Returns on sovereignwealthfunds(SWF) seem to veryfromveryhigh (Abu Dhabi: ≈ 700 billions € = twice as large as all US universitiesendowmentscombined) to relativelylow (Norway,SaudiArabia: lessrisk, huge US public debt component: economics or politics?) • But data isrelativelylowquality: verylittletransparency • All SWFs: about 5,5 trillions (≈ global billionaires), including 3,5tr for oil countries and 2tr for non-oil countries (1tr for China) • Otherreason for divergence: differentsaving rates, e.g. because of different pension strategies, canlead to huge net foreignasset positions (β1=s1/g > β2=s2/g), quiteindependantlyfrom r > g; but of course low g and r > g canamplify initial NFAs

14. Is « oligarchic divergence » (rise of global billionairewealth: billionairesown a risingshare of global wealth) or « international divergence » (rise of foreignwealth: countries ownother countries) more likely? • Bothcanhappen. But international divergence isrelativelyeasier to deal with(capital controls). Oligarchic divergence = harder to deal with, becauseitrequiresdetailed information on individualwealthlevels and strong international coordination. • As of today, offshore wealthisenough to turnrich countries’ NFA from <0 into >0; couldrise in the future • SeeZucman 2013, « The missingwealth of nations: are Europe and the US net debtors or net creditors? »

16. Regulating capital in the 21st century • During 20c, hugerise of tax revenue (from 10% of 40-50% GDP) = rise of the modern fiscal and social state, partly as a response to highinequalitygenerated by free marketcapitalism • This « greatleapforward » is not going to happenagain: during 21c, tax revenue islikely to stabilize (or decline if risingtaxcompetition), not to riseagain to 70-80% GDP • The 21c challenge is not to makegovtbigger (at least in rich countries), but to makethem more efficient, both in terms of public spendings and fiscal and regulatory system

18. Challenges for 21c tax system • The ideal fiscal trypyic: incometax, inheritancetax, wealthtax • Progressive incometax: basic pillar for financing public goods and social spendings (togetherwith social contributions); progressivityat the very top iscritical not somuch to raise revenue, but mostly to keep top laborincomes and rent extraction under control • Theory: see « Optimal taxation of top laborincomes », AEJ 2014 (see also Slides) • History: see graphs; very chaotic and unpredictable evolutions; depend upon perceptions of fairness, national identities; hard to predict future evolutions

20. Progressive inheritancetax: in a context of rising importance of wealth and inheritance, thisis an important policytool to restore (or at least increase) equality of opportunity in a world withtwo-dimensionalinequality (inheritedwealth vs laborearnings) • Theory: see « A Theory of Optimal Inheritance Taxation », 2013 • History: see graphs; also chaotic and unpredictable; downward trend in top rates due to globalization (repeal of inheritance tax in small countries) or political capture?

22. Progressive wealthtax: withimperfect k markets, progressive inheritancetaxis not enough; also, independantly of inheritance, wealthcanbe a betterindicator of ability to paythanincome • Theory: see « Rethinking capital and wealth taxation », 2014 • History and future: in order to counteract high r for top w, top rates would need quite large (5-10% rather than 2-3%? = a big difference with previous wealth taxes) • But the main objective behindwealthtaxis to deliver international financialtransparency and global wealth registration: automatic exchange of information between countries, world registry of financialassets, public statistics on wealth, etc.; and thenwe’llseewhichtax rates are optimal

23. More generally: taxation is the mostcivilizedform of regulation (i.e. itallows for efficient and transparent redistribution and intervention, whilepreserving international economicopennessand competitive forces) • But taxation iscertainly not the onlyform of regulation: variousforms of capital controls or politicalcontrols or antiglobalizationpolicies or antimigrationpolicies or inflationarypoliciescanalsobeused, and are used (China, Russia, Europe, US, ..); amongthese non-taxtools, inflation canbequiteuseful to reduce public debt; but itislike a tax on lowwealth, soitisdefinitely not as good as a progressive wealthtax) • Scholars and intellectuals do not have the power to makecivilizationhappen; but itistheir mission to saythatcivilizationis possible, and in particular to demonstratethat global markets and global justice are compatible