Guan’s blog


Capital shares

15 Jul 2014

Squarely Rooted wrote too much about “Capital in the Twenty-First Century”. I wrote the following comment to a section on how returns on capital is likely to decrease as you have more capital:

I like to think about what very low returns imply about the capital income share. Piketty hints that in the years before the French Revolution, capital’s share may have approached half of national income, and implies that this was an important economic cause of the revolution. I think that a very low capital share isn’t politically sustainable either: capitalists will revolt (Go Galt?).

In most countries, labor’s share of national income is between 60% and 70%. I think it’s widely understood, though rarely explicitly stated, that a labor share too far below 60% is politically unsustainable. Piketty cites Robert Allen for a British capital share of around 45–50% of national income in the middle of the nineteenth century, when Karl Marx wrote The Communist Manifesto.

My point in the comment is that whatever mechanism keeps the labor share over 50% can also work in the opposite direction. That is especially true in a world where the wealthy hold a lot of political power, which Piketty thinks is true with higher wealth/income ratios.

The capital share of income, which Piketty calls α, is equal to the rate of return times the wealth-to-income ratio. In an economy where wealth amounts to 6 years of national income, a return to capital of 3% means that capital only receives 18% of national income. That may be what you get from a neoclassical model, but it is politically unsustainable. When you have the political power that comes with possessing 6 years of national income, you will not be satisfied with only 18% of national income. You’ll want more.

At least that’s how I understand Piketty and Brad DeLong’s interpretation of Piketty, and particularly his Belle Époque equilibrium, with 4.2% return, wealth of 11 years of national income, and a capital share of 47%.