Tuesday, May 20, 2014

Piketty: The Question of the Public Debt

A global tax on capital is the one thing needful to complete the progressive tax picture, one that would curb the spiraling explosion of large fortunes, according to Thomas Piketty in Capital in the Twenty-First Century.  Now Piketty turns towards the real elephant in the room, the public debt in the developed world that, in the aftermath of the Great Recession, is everywhere hitting 100% of national income.

Governments typically fund themselves with taxation and with debt, and taxation is more appropriate: more just and more efficient.  Debt, significantly, is normally borrowed from those with the means to lend and it must usually be paid back.  So it's "preferable to tax the wealthy rather than borrow from them."  But governments still borrow and accumulate debt, and right now the rich countries have a debt problem.

The current debt level at about one year of national income is not unprecedented: Britain's debt hit twice the national income after the Napoleonic wars and World War II.  But with national wealth hitting five and six times national income the public debt problem is not national poverty. "The rich world is rich, but the governments of the rich are poor."  And Europe is in the worst position.

There are three methods to reduce public debt: "taxes on capital, inflation, and austerity." A tax on capital would be best.
An exceptional tax on private capital is the most just and efficient solution.  Failing that, inflation can play a useful role: historically, that is now most large public debts have been dealt with. The worst solution in terms of both justice and efficiency is a prolonged dose of austerity--yet that is the course Europe is currently following.
 Right now, "national wealth in most European countries is close to six years of national income", with "60 percent of the total owned by the wealthiest 10 percent", so there's plenty of resource to solve the problem.

Since total public assets are about the same as total public debt, the European countries could solve the problem by selling the public assets to pay off the debt, and the wealthiest households "would become the direct owners of schools, hospitals, police stations, and so on."  But this is nonsense: public facilities must be owned by the public.

Piketty would prefer a one time "exceptional tax on private capital", say 15% of private wealth, enough to redeem the entire public debt.  This would be like a debt repudiation only better, because it's hard to know who will pay the cost of debt repudiation.  The tax could be progressive, even with exemptions for the first 100,000 euros. But first, the tax authorities would have to know exactly who owned what. "Without such a financial cadaster, every policy choice would be risky." If the exceptional tax idea is too radical, the debt could be retired gradually with an annual progressive tax on capital capturing about 2 percent of national income per year.

The next option is inflation.  Even a small increase in the inflation rate can "significantly reduce the real value of the public debt."  Without an exceptional tax on capital the alternative is to run a budget surplus for decades, as Britain did after the Napoleonic Wars.  In "this period British taxpayers spent more on the debt than on education."  It was good for the bondholders, but was maybe the educational deficit was "responsible for the country's decline in the decades that followed."  Should today's Europe spend several percent of national income on its debt when it only spends one percent on universities?

But inflation has "undesirable side effects." It can get out of control, and be "hard to stop."  In France after 1945 "millions of small savers were wiped out" leading to "poverty among the elderly in the 1950s."  Germany was "traumatized" by its two inflations.  On the good side, inflation penalizes "idle capital" and encourages people to put their money in "real economic assets".  But inflation is "crude and imprecise"; better to impose a progressive tax on capital.

In the middle of the inflation question are the central banks.  Back under the gold standard, central banks had limited power.  But today the central banks have potentially unlimited power to create money, and "must therefore be strictly limited."  But sometimes central banks take this strict limitation too seriously, as after the Crash of 1929 when "they refused to create the liquidity necessary to save troubled banks".  Since then "everyone agrees" that the central banks must supply liquidity to avoid financial collapse as "'lenders of last resort'".

Milton Friedman, in his Monetary History of the United States, is unequivocal: the restrictive policy of the Federal Reserve turned the stock market crash into the Great Depression. But that encouraged people to think that the only thing needful to balance the economy was a well-run Federal Reserve.  For Piketty, a "properly functioning" Fed should be a complement to "a properly functioning social state and a well-designed progressive tax policy."

In the 2007-2008 crisis the central bankers followed the new consensus and did the right thing, with only Lehman Brothers failing. But there is no consensus about the "unconventional" monetary policies following such a crisis.  Central banks can create trillions in seconds in a financial panic, but then what?  They could buy up "firms and real estate, finance the transition to renewable energy, invest in universities," etc.  But they don't, because they "lack the democratic legitimacy to try them."  So it was the federal government that bailed out General Motors and not the Federal Reserve.

But then there is the whole question of the euro, the currency without a state, epitomized by the Greece and Cyprus crises.

In Europe the recession of 2008-2009 created a sharp rise in public debt (Greece and Italy) and a deterioration in bank balance sheets (Spain). The crises are linked because banks hold government bonds of unknown value.  But the regulators don't have access to banking data, and rich people, e.g., in Greece, could avoid a capital tax by moving their assets.

Then there was the Cyprus mess.  Rich Russians deposited money in Cyprus banks, and the banks invested their money in Greek government bonds, now written down, and real estate, now worthless.  What to do?  Without proper "statistics" and "tools they need to move forward" the Troika of the EC, ECB and IMF came up with a crude tax on bank deposits in Cyprus, with the same rate on small savers and Russian oligarchs.  The Cypriots voted that down, so the first 100,000 euros of deposits was exempted from the tax.

The Cyprus episode "illustrated the limits" of central bank operations.
Their strength is that they can act quickly; their weakness is their limited capacity to correctly target the redistributions they cause to occur.
Obviously, a progressive tax on capital would have solved the problem.  But let's not forget the bigger problem.
What is deeply shocking... is that the authorities did not even seek to equip themselves with the tools needed to apportion the burden of adjustment in a just, transparent, and progressive manner. 
That's why Piketty wants a complete financial cadaster of personal wealth.

But that still does not resolve the problem of the euro, a multistate currency without a state.  How did this disaster happen?  Mainly because people thought, after the 1970s, that the central bank's job was to control inflation.  The crisis of 2008 changed all that and revealed that the current setup can't do the job.  The European Central Bank (ECB) has a unique problem because it must deal with 17 public debts and 17 national governments, but nobody thought before 2008 that interest rates could start to diverge and people would start to "speculate on national interest rates" and trigger large and destablizing capital flows.

The only way out is for the Eurozone countries to "pool their public debts."  Then the question is how to pay down the pooled debt; it would need a "European 'budgetary parliament'" different from the current European Parliament to make decisions about the debt problem in a "public, democratic, and sovereign manner".  Without such a change, or a "progressive tax on capital", the Eurozone crisis would have no end.

Another possibility is a "tax on corporate profits" and an end to tax competition in Europe.  Corporations would make a "single declaration of their profits at the European level" and be taxed in a way "less subject to manipulation" than the current system where corporations can assign profit to subsidiaries where taxes are low.  Piketty's tax on capital could be administered the same way, taxed in the nation where the business activity occurs.  The goal is to "construct a continental political authority" to control "patrimonial capitalism" and "advance the European social model".  Otherwise the current tax competition and race to the bottom will continue.

Let us now think about how much capital accumulation is appropriate for the rest of the century. Ideally we would want to eliminate the inequality r > g and (r = rate of return on capital and g = growth rate) approach the "golden rule of capital accumulation" where r = g. But that would require a capital/income ratio of 20-30 times national income.  Piketty thinks that the best option is to tax capital and reduce the inequality r > g that way.

If the golden rule on capital accumulation is misleading what about the Maastrict stipulations that "deficits would be less than 3 percent of GDP and that total public debt would remain below 60 percent of GDP"?  The rule was an attempt to finesse the problem of the stateless euro.  With a budgetary parliament, "sovereign and democratic", it would not be appropriate or necessary "to enshrine budgetary restrictions in statutory or constitutional stone."  Think of a new crisis, or conservative "constitutional judge".  Policy-makers would need the power to act.

Anyway, with Europe so rich, solving the debt problem is not that hard.  It's time for a "sovereign parliament" to make the decision: a "progressive one-time tax on capital" or inflation.

Another big issue is climate change.  Under the Stern report in 2006 governments are supposed to spend several percent of GDP per year to mitigate climate change in the future.  Should governments implement an "ecological stimulus" with interest rates so low? On this view the public debt is not such a problem. What is needed is to "increase our educational capital" and stop damage to "natural capital." But "[d]o we really know what we ought to invest in and how we should organize our effort?"  No one knows.

More broadly, it's time to develop "new forms of property and democratic control of capital" in between the "polar paradigms of purely private capital... and purely public capital".  But Piketty's real interest is to increase transparency, not merely of individual income and wealth, but the "detailed accounts of private corporations (as well as government agencies)."  Only that, and "the right to intervene in corporate decision-making" would allow democracy "someday to regain control of capitalism".


In this chapter Thomas Piketty reveals his real agenda.  His progressive project, the "social state," has run aground and needs money to refloat itself.  Since the current sources of revenue are maxed out it's time to find a new one: a progressive tax on capital.  Since his faith declares that the lower 50 percent never has to pay, the money must come from the rich, and since their wealth is spiraling upwards out of control, it just makes sense to tap the wealthy to bring things back to normal.

Governments need money to dial back their public debt, to do useful things like expand universities and combat climate change.  But first governments need much more information about their citizens, so they can make them legible, and, though Piketty is too modest to admit it, secure the means to seize assets without warning.

A couple of quibbles.  The failure of the Fed in 1929 was that monetary policy was in the hands of political hacks that didn't know what they were doing.  Ever since Walter Bagehot's Lombard Street in the 19th century everyone knew that the central bank's role was to be the "lender of last resort" to maintain liquidity.  But the Fed of 1929 whiffed it.  And if it comes to that so did the monetary authorities of 2008.  How come that Lehman Brothers was allowed to fail?  Where was the "lender of last resort?"  Bernanke?  Paulson? The US political system wandered around for a couple of weeks getting Congress to pass the TARP bill while the financial system fell through the floor.  What was that all about?  Without the TARP delay the Crash would probably have been half as big.

Let us grant Piketty's argument, that capital accumulates, and spirals up into the moneybags of the rich, increasing already unjust inequality.  So let's increase democratic control of "patrimonial capitalism" just like he says.

Very good.  Let's open a conversation on a different argument, that elite political power accumulates, and spirals up, giving today's rather unimpressive ruling class more and more power to fix things after messes like the financial crisis of 2008.  Here's a radical idea. Let's increase democratic control of "patrimonial elitism" and curb the ever-increasing power of governments to resort to force, to regulation, and seizure in order to cover up their corruption and their incompetence.


Part One: Income and Capital

Income and Output

End of Growth

Part Two: The Dynamics of the Capital/Income Ratio

Changes in Capital

New World Capital and Slavery

Capital/income Ratio in the Long Run

Capital's Share of Income

Part Three: The Structure of Inequality

Inequality and Its Concentration

Two Worlds: France and the US

Inequality of Labor Income

Inequality of Capital Ownership

Merit and Inheritance in the Long Run

Global Inequality of Wealth in the 21st Century

Part Four: Regulating Capital in the Twenty-First Century

A Social State for the 21st Century

Rethinking the Progressive Income Tax

A Global Tax on Capital

The Question of the Public Debt

Conclusion: Anti-Piketty


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