Inequality

Extreme Inequality Is Not Driven by Merit, but by Rent-Seeking and Luck

Debunking the meritocratic argument on its own terms

Share with your friends










Submit
More share buttons
Share on Pinterest

By Didier Jacobs and Sam Pizzigati

Defenders of our deeply unequal global economic order had to put in a bit of overtime last month. They had to explain away the latest evidence — from the global charity Oxfam — on how concentrated our world’s wealth has become. A challenging task.

Back in 2010, Oxfam’s new stats show, the world’s 62 richest billionaires collectively held $1.1 trillion in wealth, far less than the $2.6 trillion that then belonged to humanity’s least affluent half.

Now the numbers have reversed. The world’s top 62 billionaires last year held $1.76 trillion in wealth, the bottom half of the world only $1.75 trillion.

“Far from trickling down,” Oxfam concludes, “income and wealth are instead being sucked upwards at an alarming rate.”

Flacks for grand fortune have a justification for this top-heavy state of affairs. We live, they assure us, in a meritocracy. Those with great wealth have made great contributions. They merit their “success.” If we want to encourage talent and hard work, we simply have to accept the inequality that meritocracy will inevitably produce.

Do our grandest fortunes really reflect merit? Oxfam economist Didier Jacobs last year set out to examine that question, and he has just published a paper that offers a fresh new take on meritocracy and the rhetoric and reality behind it. Too Much editor Sam Pizzigati last month asked the Boston-based Jacobs to share the thinking that underlies his innovative new research.

Get Evonomics in your inbox

Too Much: People who defend grand fortunes typically don’t defend all grand fortunes. They’ll readily acknowledge that some rich people haven’t done anything that makes their riches merited. But then they’ll argue that most of our wealthy do owe their wealth to personal talent and effort. What do modern philosophers like John Rawls have to say about this “meritocracy” defense of inequality?

Didier Jacobs: Many philosophers see talent as genetically or socially inherited. Even effort, Rawls contends, stands largely — if not completely — out of an individual’s control. Gifted people raised in supportive environments with access to great opportunities will find working hard to nurture their talents much easier than folks who lack a supportive environment.

Proponents of meritocracy don’t consider inherited wealth to be merited. So why should the wealth that comes from inherited talent be merited?

TM: But your research doesn’t rest on this philosophical critique of meritocracy. Your new paper essentially takes the notion of meritocracy at face value. You accept that some grand fortunes could reflect individual talent and effort and then you go on to examine how much true talent and effort specific sorts of fortunes involve. Why take this approach?

Jacobs: Because meritocracy rates as the number one argument that defenders of inequality invoke. It is easy to make an ethical case against extreme concentrations of wealth, drawing from the perspectives of Marxism, utilitarianism, or the egalitarian liberalism of John Rawls. But going down that road requires people you’re trying to persuade to change their value systems, and that’s difficult.

Debunk the meritocratic argument on its own terms, by contrast, and all the defenders of inequality have left is libertarianism, a value system that has much less appeal among the American public than meritocracy.

TM: The concept of “rent” figures prominently in your analysis. But what economists mean by rent goes far beyond what the general public sees as rent. Can you explain what qualifies as “rent-seeking” behavior?

Jacobs: Put simply, economists define rent as the difference between what people are paid and what they would have to be paid to do the work anyway. In other words, a rent is excess income, income that does not generate any effort.

So if your farmland happens to be more fertile than surrounding farmland, you get more production out of it for the same effort, and that extra income you get is a rent. Rent-seeking entails getting hold of wealth produced by others. Lobbying government to obtain a subsidy is an example.

TM: Your paper explores the varied sources of extreme wealth. A few of these — like crime and cronyism — obviously rate as rent-seeking. No one could call them “meritocratic.” But other sources — like monopoly — could have redeeming social value. High-tech CEOs like the late Steve Jobs, some argue, fully merit their wealth because their contributions have been so spectacular. But you see in technology rent-seeking dynamics in high tech that wildly overcompensate execs like Jobs. What sort of dynamics?

Jacobs: Apple’s business model relies heavily on two types of rents: intellectual property and “tying,” obliging customers to buy Apple hardware and software bundled together. And Apple, like most large tech companies, also benefits from another major source of rent: network externalities.

A network externality exists when consumers draw value from other consumers using the same product, such that the company that manages to get a critical mass of consumers tends to attract many more of them. A classic example would be Facebook. Most people use Facebook simply because all their friends use Facebook. A competing site might have a better user interface, but switching to that site would defeat the purpose of social networking.

This same phenomenon plays to the advantage of most if not all large IT companies. People look for drivers on Uber because they know that most drivers use Uber to offer their services.

Don’t get me wrong, Steve Jobs deserved to be rich. I have no doubt he made a considerable contribution to humanity through talent and hard work. But I argue that he did not deserve to be extremely rich because his wealth derived in large part from rents.

The IT industry essentially resembles the mining industry in one respect. Digging gold can be useful to society, and the mining company that wins a tender to dig a specific field will usually be better than its competitors. But that company did not create the gold, and that’s why governments usually charge royalties for the privilege to dig it out.

Similarly, IT companies create useful products, and the most proficient company will usually dominate the market of a specific product. But IT monopolies do not create network externalities. They take advantage of them.

It is these network externalities that create the extreme wealth concentration. I would say that these externalities belong to society, just like underground gold, and so the wealth they generate ought to be shared.

You don’t have to be particularly radical to take this perspective. Even a business magazine as rooted in mainstream economics as the Economist suggests it.

TM: How does your research go about quantifying how much of the wealth of today’s billionaires can legitimately claim to be merited?

Jacobs: I use the Forbes billionaire list. Forbes identifies the billionaires who have inherited their wealth and also notes the countries and industries where each billionaire’s wealth originated. This information lets us quantify the proportion of the world’s billionaire wealth by different categories.

So we can calculate how much billionaire wealth comes from inheritance. We can also calculate how much may come from cronyism, which I define as wealth generated in both a corruption-prone country and a state-dependent industry. And we can calculate how much billionaire wealth may come from market failures such as monopoly, which I define as wealth derived from finance and IT.

Altogether, my research traces 65 percent of the world’s billionaire wealth to the rents of cronyism, inheritance, and monopoly.

TM: Your analysis leaves about 35 percent of current billionaire wealth “unaffected by cronyism, inheritance, or monopoly.” But that, your new paper relates, doesn’t make this 35 percent somehow merited, and you cite globalization as one key reason why. How does our globalized world economy
impact on the matter of merit?

Jacobs: An individual’s contribution to society depends on both the intrinsic usefulness of the contribution and the size of society. Take Johannes Gutenberg, for instance. He invented the printing press in 1439. Most of us would agree, I think, that the printing press amounts to an invention as least as important as Google. Yet Gutenberg did not become a billionaire.

Gutenberg didn’t get extremely rich because the world economy in the fifteenth century was simply too small and too fragmented to support any billionaire fortunes. They didn’t have a billion people all around the world back then with a dollar to spare toward printing equipment.

Every billionaire’s wealth today depends on having access to a large population that’s linked through a globalized economy. The more this global economy grows, the richer our billionaires get. This growth happens independently from any one individual’s effort and talent, so we can’t say that billionaires deserve the profits that go hand in hand with economic growth.

Indeed, billionaires do not deserve the large population that makes their fortunes possible. They were just born into it — and that raises the question of whether society should put a ceiling on wealth concentration.

Get Evonomics in your inbox

If current public policy remains unchanged, we’ll almost certainly see a trillionaire one day, simply because the global population and economy is likely to continue growing.

This issue — the dependency of extreme wealth on the existence of a large, globalized society — rarely gets discussed. Neither does its corollary, the question of whether we need a ceiling on wealth. These both strike me as important societal questions.

TM: Where does luck fit into all this?

Jacobs: Meritocracy is about contributing to society through talent and effort, but also through risk taking. Every billionaire has made several big calculated bets — they knew they could lose it all. That brings us to my last critique of meritocracy: the inequity between the talented and hard-working people who take a bet and win and the equally talented and hard-working people who take a bet and lose.

Both winners and losers here rank as equally deserving. Yet the one can be thousands of times wealthier than the other only because of luck.

Our growing inequality reflects a society with more and more “winner-takes-all” markets, where many talented individuals compete for ever fewer top spots. In the end, the winners often owe their place to chance.

TM: So can a reasonable person argue that our deeply unequal world in any way amounts to a meritocracy?

Jacobs: The meritocracy notion may make sense for the middle of our income distribution: An outstanding nurse is likely to make more money than an average one and would deserve that extra income. But in no way can meritocracy justify extreme inequality.

I would like to depersonalize the inequality debate. Extreme inequality is not driven by the merit or vices and virtues of particular individuals, but by social, economic, and political forces. At Oxfam, we have an intimate knowledge of the “poverty traps” that keep people in poverty. My new paper is about the “wealth traps” that concentrate wealth in ever fewer hands.

Originally published here.

2016 September 19


Donating = Changing Economics. And Changing the World.

Evonomics is free, it’s a labor of love, and it's an expense. We spend hundreds of hours and lots of dollars each month creating, curating, and promoting content that drives the next evolution of economics. If you're like us — if you think there’s a key leverage point here for making the world a better place — please consider donating. We’ll use your donation to deliver even more game-changing content, and to spread the word about that content to influential thinkers far and wide.

MONTHLY DONATION
 $3 / month
 $7 / month
 $10 / month
 $25 / month

ONE-TIME DONATION
You can also become a one-time patron with a single donation in any amount.

If you liked this article, you'll also like these other Evonomics articles...




BE INVOLVED

We welcome you to take part in the next evolution of economics. Sign up now to be kept in the loop!

  • Duncan Cairncross

    I have seen the calculations from inherited wealth
    And they are simply WRONG
    They forget the effects of time – and compound interest
    When you look at the Forbes data and think about the time difference between when the wealth was inherited and “now” when it is being measured you see that the “inherited portion” of the wealth is actually 80% + and that is before you take the “rent” part into account

  • AssHat900

    I make over $90 an hour trading pitchfork stocks.

  • The whole inquiry seems fraught with huge amounts of imprecision originating from the fact that it is nigh impossible to determine what particular individuals deserve both post-hoc and going forward. (As if it was even possible to administer this on some objective basis.)

    The best you can do is try to try to make sure that the rules that are in place for markets do a decent job at maximizing human flourishing. Better to focus on how we could make improvements there.

  • Mateusz Mucha

    “income and wealth are instead being sucked upwards” – that is so childish. “Sucking” in either of the direction requires actually compulsory removal of resources from one place to another. Part of that process may be “sucking”, but huge amount of it is not MOVING EXISTING resources, but CREATION of NEW ECONOMIC VALUE. A process, in which new value is created without diverting it from anyone, because it did not exist previously. Simple example: when Iphone is created, new economic value is created. CEO of the company earns huge wealth, yet he is not “sucking” anything upwards from anyone by making and selling a phone.
    Those guys at OXFAM actually should learn some economics. Start with Schumpeter’s work on growth.

  • benleet

    Since 2008 the private and personal net worth of households in the U.S. has increased by a nominal 60%, from $56 trillion to $89 trillion. The U.S. government has outlays of about $4 trillion a year, the public part of the national debt is $14 trillion. How was it possible to create $33 trillion during the period of the worse economic downturn in 75 to 80 years, when the median household had lost 40% of its life savings, when millions of workers were laid off and unemployment peaked at 10% and U6 unemployment was about 18%, and the national income decreased for only the second time in 75 years? Wealth increased by 60%, nominally. This figure comes from the FRB Flow of Funds report page 2, and Table B.101. Per capita wealth increased from $183,000 to $278,000 in 2016– almost $100,000 more wealth per citizen in 8 years of decline in an economy operating below potential. Wealth is a different sort of phenomenon than income, it increases due to the pressure of its own limited market. Extracting an ever-greater portion of the national output, the resources have only a finite array of destinations, and the prices are bid up, as in a bubble. I believe Robert Shiller has identified a disproportionate build-up. There are circumstances that have created the monopolization of the economic surplus — loose labor markets resulting in low wages, and a destruction of labor union rules favoring corporate power. William Lazonick states that 91% of corporate profits have been used, 2005 to 2015, in stock buybacks and dividends. This is an anti-social phenomenon that benefits the wealthy minority, 75% of financial assets are held by 5% of the society — see State of Working America’s Wealth by Silvia Allegretto. James Kwak has proposed a Retrospective Wealth Tax, and other measures would also work to address this imbalance and economic waste. Of course the wealthy own politics with unlimited campaign financing and media control, our democracy is unresponsive because of a news blackout, and a political buyout. Too Much is a rare source of info about this imbalance, where Pizzigati works, and my blog, Economics Without Greed, http://benL8.blogspot.com, and many others, particularly the EPI.org.

  • Justin Dixon

    I would like some clarification on a couple points.

    Why is the IT industry overall is considered monopolistic when IT specialists is a common job with low barriers to entry? I’m aware of the high barrier of entry for being able to compete with companies like Microsoft, Google, and Apple, but are you separating that industry according to the many levels, workers, and value added by those services? If so how are you breaking that down (without that information it’s hard for me to share this article.

    What are you using as your definition of libertarianism? As far as I’m aware while the libertarian party does fair poorly libertarian philosophy thrives, and is also very much based on the meritocracy that this article is seeking to undermine. Given that some of the most hardcore arguments for maintaining the status quo come from Libertarians I would think I need an argument that I can address to them, and do not see the benefit of singling them out as something separate from the argument against the market creating a meritocracy.

    Again clarification here would help me share this, as I am interested in your work, and inclined to agree with it. I just know what type of objections and questions I am expecting and those two points I do not have a good answer for.