Are Economists in Denial About What’s Driving the Inequality Trainwreck?


Lynn Parramore interviews Lance Taylor over at the INET blog:

A new paper by economist Lance Taylor for the Institute For New Economic Thinking’s Working Group on the Political Economy of Distribution takes on the way economists have looked at wealth and income inequality. Taylor’s research challenges some conclusions about what’s driving inequality made by Thomas Piketty and Joseph Stiglitz. What’s really causing the growing gap between haves and have-nots? Is it mechanical market forces? Outsourcing? Real estate? As Taylor sees it, economists have gotten the answer wrong. Worker exploitation and outsized business profits are factors, but even more key are the unjustified payments to the wealthy generated by our outsized financial sector. This hasn’t just “happened.” Flawed economic theory and politicians beholden to the rich lead to policies that make it happen. We can fix the problem, but it will take bold steps.

Lynn Parramore: You recently dived into the debate on what causes wealth and income inequality — and whether or not we can fix it within the existing social order. Heated discussions among economists got touched off by Thomas Piketty’s bestselling book, Capital in the Twenty-First Century, but you say that a key part of the story actually is a debate that happened in the late 60s and early 70s, the “Cambridge capital controversy.” Why is this old debate so vital now?

Lance Taylor: Because it tells us that mainstream economists have been wrong in how they think about inequality for a long time. Which means that they haven’t been particularly helpful in solving the problem. This is one of the key challenges of our time. We can do better.

LP: Ok, so tell us a little about this debate and why the ordinary person should care about it.

LT: The Cambridge capital controversy between economists at MIT in the U.S. and at Cambridge University in the U.K. took place at two levels. Especially for the Brits, the first level was about whether distributions of income and wealth are partly shaped by social and political relationships – class conflict if you will – or mostly by “market forces.”

There were technical skirmishes at the second level – one in particular about the nature of capital and the role of the rate of profit made by producers. Nobody denied that we need capital goods – machines, computers, buildings, railroad tracks – to produce stuff. The question was whether it makes sense to talk about an economy-wide all- encompassing capital stock. The MIT crowd wanted to say that if you have more capital stock, then 3 things will happen: 1) the profit rate will fall due to decreasing returns, 2) output and the real wage will go up and 3) as far as distribution is concerned the world will be a better place. These ideas are built into the standard mainstream model of economic growth, mostly because of MIT’s Bob Solow and Trever Swan from Australia, influential economists who invented it. Thomas Piketty relies on this model in his book.

Any time you produce something, you’re going to use some combination of capital goods. Trains haul iron ore, which makes steel, which makes railroad tracks. The theory of capital has always centered on the implications of how much it costs to use these goods. The Cambridge controversy focused on the question of what were the cheapest costs for using workers together with different combinations of capital goods as the rate of profit changes.

Complications arise because the production cost of each good depends on the profit rate along with the prices of the other goods.

More here.