Thursday, May 29, 2014

Peter Schiff on Piketty's Envy Problem

Piketty's Envy Problem
By Peter Schiff

There can be little doubt that Thomas Piketty's new book Capital in the 21st Century has struck a nerve globally. In fact, the Piketty phenomenon (the economic equivalent to Beatlemania) has in some ways become a bigger story than the ideas themselves. However, the book's popularity is not at all surprising when you consider that its central premise: how radical wealth redistribution will create a better society, has always had its enthusiastic champions (many of whom instigated revolts and revolutions). What is surprising, however, is that
the absurd ideas contained in the book could captivate so many supposedly intelligent people.

Prior to the 20th Century, the urge to redistribute was held in check only by the unassailable power of the ruling classes, and to a lesser extent by moral and practical reservations against theft. Karl Marx did an end-run around the moral objections by asserting that the rich became so only through theft, and that the elimination of private property held the key to economic growth. But the dismal results of the 20th Century's communist revolutions took the wind out of the sails of the redistributionists. After such a drubbing, bold new ideas were needed to rescue the cause. Piketty's 700 pages have apparently filled that void.

Any modern political pollster will tell you that the battle of ideas is won or lost in the first 15 seconds. Piketty's primary achievement lies not in the heft of his book, or in his analysis of centuries of income data (which has shown signs of fraying), but in conjuring a seductively simple and emotionally satisfying idea: that the rich got that way because the return on invested capital (r) is generally two to three percentage points higher annually than economic growth (g). Therefore, people with money to invest (the wealthy) will always get richer, at a faster pace, than everyone else. Free markets, therefore, are a one-way road towards ever-greater inequality.

Since Pitketty sees wealth in terms of zero sum gains (someone gets rich by making another poor) he believes that the suffering of the masses will increase until this cycle is broken by either: 1) wealth destruction that occurs during war or depression (which makes the wealthy poorer) or 2) wealth re-distribution achieved through income, wealth, or property taxes. And although Piketty seems to admire the results achieved by war and depression, he does not advocate them as matters of policy. This leaves taxes, which he believes should be raised high enough to prevent both high incomes and the potential for inherited wealth.

Before proceeding to dismantle the core of his thesis, one must marvel at the absurdity of his premise. In the book, he states "For those who work for a living, the level of inequality in the United States is probably higher than in any other society at any time in the past, anywhere in the world." Given that equality is his yardstick for economic success, this means that he believes that America is likely the worst place for a non-rich person to ever have been born. That's a very big statement. And it is true in a very limited and superficial sense. For instance, according to Forbes, Bill Gates is $78 billion richer than the poorest American. Finding another instance of that much monetary disparity may be difficult. But wealth is measured far more effectively in other ways, living standards in particular.

For instance, the wealthiest Roman is widely believed to have been Crassus, a first century BC landowner. At a time when a loaf of bread sold for ½ of a sestertius, Crassus had an estimated net worth of 200 million sestertii, or about 400 million loaves of bread. Today, in the U.S., where a loaf of bread costs about $3, Bill Gates could buy about 25 billion of them. So when measured in terms of bread, Gates is richer. But that's about the only category where that is true.

Crassus lived in a palace that would have been beyond comprehension for most Romans. He had as much exotic food and fine wines as he could stuff into his body, he had hot baths every day, and had his own staff of servants, bearers, cooks, performers, masseurs, entertainers, and musicians. His children had private tutors. If it got too hot, he was carried in a private coach to his beach homes and had his servants fan him 24 hours a day. In contrast, the poorest Romans, if they were not chained to an oar or fighting wild beasts in the arena, were likely toiling in the fields eating nothing but bread, if they were lucky. Unlike Crassus, they had no access to a varied diet, health care, education, entertainment, or indoor plumbing.

In contrast, look at how Bill Gates lives in comparison to the poorest Americans. The commodes used by both are remarkably similar, and both enjoy hot and cold running water. Gates certainly has access to better food and better health care, but Americans do not die of hunger or drop dead in the streets from disease, and they certainly have more to eat than just bread. For entertainment, Bill Gates likely turns on the TV and sees the same shows that even the poorest Americans watch, and when it gets hot he turns on the air conditioning, something that many poor Americans can also do. Certainly flipping burgers in a McDonald's is no walk in the park, but it is far better than being a galley slave. The same disparity can be made throughout history, from Kublai Khan, to Louis XIV. Monarchs and nobility achieved unimagined wealth while surrounded by abject poverty. The same thing happens today in places like North Korea, where Kim Jong-un lives in splendor while his citizens literally starve to death.

Unemployment, infirmity or disabilities are not death sentences in America as they were in many other places throughout history. In fact, it's very possible here to earn more by not working. Yet Piketty would have us believe that the inequality in the U.S. now is worse than in any other place, at any other time. If you can swallow that, I guess you are open to anything else he has to serve.

All economists, regardless of their political orientation, acknowledge that improving productive capital is essential for economic growth. We are only as good as the tools we have. Food, clothing and shelter are so much more plentiful now than they were 200 years ago because modern capital equipment makes the processes of farming, manufacturing, and building so much more efficient and productive (despite government regulations and taxes that undermine those efficiencies). Piketty tries to show that he has moved past Marx by acknowledging the failures of state-planned economies.

But he believes that the state should place upper limits on the amount of wealth the capitalists are allowed to retain from the fruits of their efforts. To do this, he imagines income tax rates that would approach 80% on incomes over $500,000 or so, combined with an annual 10% tax on existing wealth (in all its forms: land, housing, art, intellectual property, etc.). To be effective, he argues that these confiscatory taxes should be imposed globally so that wealthy people could not shift assets around the world to avoid taxes. He admits that these transferences may not actually increase tax revenues, which could be used, supposedly, to help the lives of the poor. Instead he claims the point is simply to prevent rich people from staying that way or getting that way in the first place.

Since it would be naive to assume that the wealthy would continue to work and invest at their usual pace once they crossed over Piketty's income and wealth thresholds, he clearly believes that the economy would not suffer from their disengagement. Given the effort it takes to earn money and the value everyone places on their limited leisure time, it is likely that many entrepreneurs will simply decide that 100% effort for a 20% return is no longer worth it. Does Piketty really believe that the economy would be helped if the Steve Jobses and Bill Gateses of the world simply decided to stop working once they earned a half a million dollars?

Because he sees inherited wealth as the original economic sin, he also advocates tax policies that will put an end to it. What will this accomplish? By barring the possibility of passing on money or property to children, successful people will be much more inclined to spend on luxury services (travel and entertainment) than to save or plan for the future. While most modern economists believe that savings detract from an economy by reducing current spending, it is actually the seed capital that funds future economic growth. In addition, businesses managed for the long haul tend to offer incremental value to society. Bringing children into the family business also creates value, not just for shareholders but for customers. But Piketty would prefer that business owners pull the plug on their own companies long before they reach their potential value and before they can bring their children into the business. How exactly does this benefit society?

If income and wealth are capped, people with capital and incomes above the threshold will have no incentive to invest or make loans. After all, why take the risks when almost all the rewards would go to taxes? This means that there will be less capital available to lend to businesses and individuals. This will cause interest rates to rise, thereby dampening economic growth. Wealth taxes would exert similar upward pressure on interest rates by cutting down on the pool of capital that is available to be lent. Wealthy people will know that any unspent wealth will be taxed at 10% annually, so only investments that are likely to earn more than 10%, by a margin wide enough to compensate for the risk, would be considered. That's a high threshold.

The primary flaw in his arguments are not moral, or even computational, but logical. He notes that the return of capital is greater than economic growth, but he fails to consider how capital itself "returns" benefits for all. For instance, it's easy to see that Steve Jobs made billions by developing and selling Apple products. All you need to do is look at his bank account. But it's much harder, if not impossible, to measure the much greater benefit that everyone else received from his ideas. It only comes out if you ask the right questions. For instance, how much would someone need to pay you to voluntarily give up the Internet for a year? It's likely that most Americans would pick a number north of $10,000. This for a service that most people pay less than $80 per month (sometimes it's free with a cup of coffee). This differential is the "dark matter" that Piketty fails to see, because he doesn't even bother to look.

Somehow in his decades of research, Piketty overlooks the fact that the industrial revolution reduced the consequences of inequality. Peasants, who had been locked into subsistence farming for centuries, found themselves with stunningly improved economic prospects in just a few generations. So, whereas feudal society was divided into a few people who were stunningly rich and the masses who were miserably poor, capitalism created the middle class for the first time in history and allowed for the possibility of real economic mobility. As a by-product, some of the more successful entrepreneurs generated the largest fortunes ever measured. But for Piketty it's only the extremes that matter. That's because he, and his adherents, are more driven by envy than by a desire for success. But in the real world, where envy is inedible, living standards are the only things that matter.

 Peter Schiff is the CEO and Chief Global Strategist of Euro Pacific Capital and best-selling author of The Real Crash: America's Coming Bankruptcy - How to Save Yourself and Your Country.

5 comments:

  1. The socialistic fixation with equality seems to derange the collectivist mind. Piketty seems to believe that it is better to make everyone poorer if it results in more equal poverty. This is exactly what socialism accomplishes everywhere it is employed. It kind of like a mental illness combined with moral depravity.

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  2. Knock knock.
    Who's there?
    Piketty.
    Piketty who?
    Stop piketty your nose.
    LOL

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  3. I don't think people are envious, they're pissed......... the biggest borrowers dividend themselves wealth or rollover bad debt and call it productivity when in reality their success is based on fraud. This has been going on for a long time.


    Fed’s Junk-Loan Caution Spurs Creative Accounting Alchemy

    Lenders are increasingly allowing junk-rated borrowers to adjust their earnings to make them look more creditworthy as U.S. regulators increase pressure on banks to refrain from underwriting too-risky deals.

    Such tweaks, which are permissible under more and more credit agreements, can help companies stay in compliance with their loan terms or to raise debt.

    More than half of loans this year for issuers backed by private-equity firms allow them to boost earnings by an unlimited amount through projected cost savings from acquisitions and “any other action contemplated by the borrower,” said Vince Pisano, an analyst at Xtract Research LLC, citing a sample he’s reviewed.

    Riskier borrowers may have more incentive to show better financial metrics because the Federal Reserve and the Office of the Comptroller of the Currency are increasing pressure on banks to adhere to underwriting criteria they laid out last year amid concern that the market is getting frothy. Issuers such as Thoma Bravo LLC’s TravelClick Inc. have used adjustments, called add-backs, to raise earnings and decrease leverage when seeking funding.

    With banks trying to fit their deals into the regulatory guidelines, investors have to be more diligent in determining “what is real versus what is accounting” gimmicks, said Beth MacLean, who manages $14 billion in loans at Newport Beach, California-based Pacific Investment Management Co.
    Justifiable Increases
    Deteriorating Standards

    Todd Vermilyea, a Fed regulator, said May 13 that standards “have continued to deteriorate in 2014” and that “stronger supervisory action” may be needed.

    Loan agreements have “dramatically weakened” and it’s easier than ever for borrowers to boost earnings in more ways than investors may realize, including “extremely speculative” cost savings, said Xtract’s Pisano, who is based in Westport, Connecticut. Those that do cap add-backs limit them to about 25 percent of Ebitda, up from 15 percent a year ago, he said.

    http://www.bloomberg.com/news/2014-05-27/fed-s-junk-loan-caution-spurs-creative-accounting-alchemy.html

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  4. or maybe they're pissed about this????????????????????????????????????????????

    Markets Pushed Higher To Conceal “Grave Danger”


    “Let me get philosophical for a minute, Eric. There was a Chinese philosopher, Han Fei. And Mao Tse-tung was a major believer in this man. Fei taught people how to be emperors -- how to kill people and do whatever it takes. All of the people he taught were famous emperors.


    Fei noted that human nature is based on fear and greed, or what he called ‘reward and punishment.’ Fei believed that in order to maintain stability you needed to appeal to fear and greed, or, again, what he called reward and punishment.


    Now, you look at the Fed today and there is no punishment. You never get punished by being long stocks, regardless of what the news is. There hasn’t been a 10 percent correction in 32 months. Also, the market is up 41 percent from the lows of November 2012. So this has been an intermediate move of 550+ days, where the stock market is up 41 percent without a correction of any kind. Therefore, you have the entire world long now.



    Again, stocks should be going down but there is this ‘Fed put’ or manipulation underneath the market. Now this is the important point, Eric: The U.S. economy must be in grave danger, and I want to emphasize that again, grave danger of the system completely collapsing. This is why the Fed does not dare allow the stock market to selloff.


    There is no way we after 5 years that we should still be at zero interest rates, and allowing markets to do what they are doing with continued Fed manipulation, unless things are very, very dire. I want to be clear about this, Eric, what I am saying is that things must be very alarming behind the scenes because the Fed won’t allow any kind of selloff to occur in stocks.


    You have to look at the comments by Fed member Lacker stating that GDP will be up in the second quarter. I can understand some economist coming out and saying that, but for a Fed official to rush out and make that statement just reveals how protective the Fed is and how worried the Fed is about a market selloff taking place.


    But that’s actually a very stupid comment for this Fed official to make because it reveals just how dire things are behind the curtain. They are really grave (laughter ensues once again) for the Fed to be this protective with the Dow nearing the 17,000 level this long after the collapse of 2008.


    This is a ‘Tulip Bulb’ market.
    http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2014/5/29_Legend_Says_Markets_Pushed_Higher_To_Conceal_Grave_Danger.html

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  5. Our "Make It Look Good" Economy Has Failed

    When rigged numbers are the basis of our success, we have failed.

    The essence of the U.S. economy is make it look good: never mind quality or long-term consequences, just make it look good today, this week, this month, this quarter: make the pink slime look like meat, make the company look profitable, make the low-quality product look good enough to close the sale, make the unemployment rate low enough to justify re-electing the toadies currently in power, make the body count of bad guys look good, and on and on–just makes the numbers look good now, the future will take care of itself.

    This is, of course, an attractive lie: the future is a direct consequence of present decisions and actions.

    It is remarkable how quickly we latch onto the notion that an endless parade of lies, manipulations and deceptions will magically produce a warm and fuzzy future of organic growth fostered by sound investments.

    Alas, an economy that relies on an endless parade of lies, manipulations and deceptions has only one possible future: failure–abject, total, undeniable, devastating. Equally remarkable is the current conviction that absurd extremes in manipulation–the billions of dollars of corporate buybacks pushing stocks higher, the socialization of the U.S. mortgage market, where privately issued mortgages (unbacked by government guarantees) have virtually vanished, the ginned-up unemployment number (remove enough potential workers from the count and the unemployment rate is soon near-zero)–will magically lead to an economy that no longer needs extreme manipulations to sustain itself.
    http://charleshughsmith.blogspot.com/2014/05/our-make-it-look-good-economy-has-failed.html

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