Lecture 24: A Summary of Capital in the 21st Century


In the rich market economies of the world, the incomes of the wealthiest are rising, whilst the incomes of the majority are stagnating. The outcome is growing wealth and income inequality.

None of this is in empirical dispute. What is in dispute is trying to explain why (i.e. the causal mechanism) and whether it is justified or not (normative legitimacy)?

Economic history

Piketty wants to put the issue of inequality into a broader historical context. To do this, he traces the evolution of capital from the agrarian societies in the 18th century, through to the industrial revolutions of the 19th century, the inter war years, and into the second half of the 20th century.

There are three conclusions from this comparative historical analysis on the political economy of distribution:

  • Inequalities of wealth and income are influenced by a whole host of institutions; political, economic, cultural and normative factors.
  • Markets when left to their own devices produce a high degree of inequality because the rate of return on capital always exceeds economic and income growth (R>G).
  • On the basis of this inequality (R>G), wealth tends to accumulate and concentrate at the very top of the income distribution.

To tame the worst effects of market inequalities requires active political intervention.


Democracies throughout the 20th century have pursued various public policy interventions to tame market inequalities: minimum wages, progressive taxation, capital controls, social programs, strengthening collective bargaining, trade unions, rent controls and corporate regulations.

A core finding in political economy is that institutions, and their underlying political coalitions, shape market outcomes, and these vary significantly between countries and regions.

These institutions are usually associated with the functions of the labour market and/or the social state. But since the 1980’s those institutions that tended to create egalitarian outcomes have been gradually eroding (for a whole variety of reasons associated globalisation), with the implication that market inequalities are increasing.


Global market liberalization has been defended by the economics profession itself (and financial markets interests, in particular), who have tended to support those public policies that enable markets to get back to their competitive “natural tendencies”.

For Piketty, these natural competitive market tendencies logically lead to the inequality R>G, and undermine the meritocratic principles of democratic societies.

When competitive markets are left to their own devices, capital-wealth accumulates and concentrates, with the implication that inheritance ends up mattering more than hard work.

This is the core normative critique underpinning the book. It suggests that markets when left to their own devices leads to a rentier society not a meritocratic society.


Lets unpack the concept of wealth, which is used interchangeably with the concept of capital in the book.

The first question to ask is where does capital-wealth come from? There are two sources: inheritance and income (theft also matters).

Income can be broken down into two sources: income from labour (wages, bonuses and salaries) and income arising from owning capital (rent, assets, interest, bonds, stocks, dividends).

Wealth that accrues from either of these forms of income can be consumed, saved or invested. Most people barely earn enough income to cover their living expenses. They have no wealth.

Capital only becomes true wealth when it is not immediately consumed i.e. when it accumulates in a savings account, re-invested in financial stocks and bonds, owned in real and/or commercial estate, machinery, buildings or land.

Most capital-wealth is held in either housing or financial assets. The purpose of owning capital is to yield an income.

Capital/income ratio

Capital can be public and/or private. In any given society, total wealth equals public+private capital (minus debt). In all market democracies today, capital is almost entirely privately owned.

For Piketty, the best way to analyze the importance of capital in a society (i.e. capitalism) is to measure the amount of wealth (stock) as it relates to income (flow). Dividing the total capital stock by national income gives us the capital/income ratio (β).

Capital/income ratios are important because they provide us with a comparable quantitative measure to analyze capitalist development across time (history) and space (country).

In most countries we find that, on average, national wealth is 6-7 times national income. The capital/income is 600-700%.

But capital/income ratios tell us very little about the actual distribution of capital in a society i.e. who owns the wealth at an individual or household level.

Most people own nothing at all. In the US and Europe, 50% of the population own less than 5% of the wealth. Capital is more unequally distributed than labour-income.

The R>G inequality

Before Piketty analyses the precise distribution of income and wealth in Europe and the USA he proposes a theoretical mechanism to analyze the evolution of capitalism:

  • When the rate of return on capital (r) is equal to economic and income growth (g) then the capital/income ratio remains stable.
  • When the rate of return on capital (r) exceeds economic growth (g) then the capital/income ratio grows. Wealth accumulates.

This is precisely what we observe in the USA and Europe since 1980. R>G leads to rising capital/income ratios. For Piketty, this suggests ‘private capital is back’.

On the basis of his historical analysis Piketty finds that on average, in the long-run, economic growth averages 1-2%, whereas the rate of return on capital is 4-5%.

R>G is the logical outcome of what happens when markets are left to their own devices.

It was only during the fiscal revolutions associated with the social state in the 20th century did the inequality R>G go into reverse. This was the period of the propertied middle class.


Theoretically, a high capital/income ratio does not imply a high degree of inequality. All capital-wealth, in theory, could be distributed equally or held publicly. But this is not the case.

As we have seen throughout this course, in the USA the top decile own 72% of all wealth, whereas the bottom 50% own nothing. Be sure to study the distribution tables before your exam.

Why does R>G lead to inequality?

But why does the mechanism R>G lead to increased concentration of wealth at the top of the income distribution? There are two reasons.

  • First, wage inequality. Most people only earn enough to cover their living costs. They cannot save or invest. The higher your wage-income the more more you can consume whilst investing and saving. The wealthiest (0.1%) tend to invest in financial assets. The capital-income from these assets tends to accumulate and reap a high yield/interest rate.
  • Second, inheritance. The largest fortunes in market economies are usually inherited not earned. Bill Gates is a very very rare phenomenon, and not representative of a general trend.

Why did inequality decline in the 20th century?

Capitalist markets generate high levels of inequality. This is not in dispute. But why then did we witness a rapid decline in wealth and income inequality from 1950 to the 1980’s?

  • In the 18th century most capital-wealth was agrarian. Large landowners owned 90% of all wealth in European societies. There was no such thing as progressive taxation. Most fortunes were associated with inherited land or government bonds. In this period, capital/income ratios were rising because of the inequality R>G.
  • In the 19th century capital was increasingly invested into industry not land. In Europe, most private capital was bound up with industrial assets and foreign assets accrued through colonization. This was not the case in the USA. In this period, although the composition of capital change dramatically, the capital/income ratios continue to rise because of the inequality R>G. A rising tide did not lift all boats.
  • From 1914 through to the interwar years, private capital experienced massive external shocks. Capital/income ratios declined because of physical destruction, government debt, inflation, the introduction of top income taxes, rent control and a whole raft of capital regulations. Post-war societies gave birth to democratic capitalism,
  • From WW2 until the 1980’s there was a balance between private and public capital (mixed market economies), which gave birth to qualitatively distinct national varieties of capitalism. This was the birth of the democratic state, where revenue and expenditure shifted toward providing income transfers (pensions and unemployment protection) and public services (healthcare and education) to all citizens. Labour and wages became more important than inheritance. Trade unions and collective bargaining were strong.
  • In the 20th century economic growth exceeded or balanced capital-income growth. This was the period of a “rising tide lifting all boats”, associated with the Kuznets curve.

In summary, the decline in inequality took the shock of two world wars, followed by a soft revolution in the fiscal policies associated with the democratic welfare social state. There was nothing “natural” about this market process. It was the outcome of politics.

The rise of ‘neoliberalism’.

With rising economic and income growth, national governments could fund an expansion of social services, whilst implementing public policies aimed at re-shaping market inequalities.

These, in addition to macroeconomic polices aimed at full employment, meant that the quality of life for those lower down the income distribution rapidly improved.

  • From the 1980’s most countries were exposed to international financial globalization. There was a shift back to private capital, particularly financial capital. In response to the oil crisis, stagflation and overburdened welfare states, the Keynesian demand management ‘consensus’ came to and end.
  • Public policies and institutions shifted toward privatization and re-regulation for market outcomes, particularly in international capital markets. The middle classes, particularly in the US, did not continue to experience rising income. Economic growth slowed down, whilst the capital incomes of those owning financial assets soared i.e. R>G.
  • The accumulation of capital-income ratios has meant inheritance has re-emerged as crucial factor in determining who owns wealth, and who does not. Public opinion and belief systems have become much more tolerant of inequalities (because they are perceived as a just outcome of individual merit and talent).

It is important to think about the interactive effect of ideas, institutions and interests in explaining the fall and then the rise in inequality throughout the 21st century.

Distribution tables

Piketty uses distribution tables to track this historical change in wealth and income distribution from the 18th-21st century. These are distinct measures from the Gini coefficient. T7.3

What he finds is that it is crucial to observe those changes in the top decile and top centile of the income distribution, as this is where most of the radical changes have taken place.

Most of the income and wealth gains since 1980 have accrued to the top 0.1 percent of the population.

Why does this matter?

Piketty does not get into a normative discussion on questions of fairness or social justice.

He simply points out that even if you think differences in wage income and capital accumulation are justified, it is hard to legitimate a situation where inheritance matters more than merit.

He also warns us about the dangers to democracy in a society completely dominated by private capital, particularly when the latter is concentrated in the hands of the top 1 percent.

He also highlights the distributive implications (and irony) of austerity and public debt in European societies rich in private wealth.

His solution to stem the rise of economic inequality, and to avoid the worst effects of R>G, is to impose a coordinated and progressive global wealth tax (including corporate profit).


The conditions under which a coordinated wealth-capital tax is possible is a question for political science. It requires international cooperation to overcome collective action problems.

The most likely place it could occur is in the EU. But such cooperation is undermined by growing tax competition between nation-states.

This capital tax should be used, according to Piketty, to pay off the public debt of those sovereign states who stepped in to save the financial sector from collapse.

He also argues that it should be used to raise revenue to invest in education and public infrastructure.

In the absence of international cooperation to regulate global capital in the 21st century Piketty anticipates a rise in support for nationalist, right wing, and anti-european political parties.

This brings us to the end of our lecture series. Best of luck in the exams, and the rest of your studies. At least in university, the price of success is hard work.

Slides: Lecture 24

Lecture 23: Exam Paper Revision

In this lecture we will be revising the course and going through the exam paper.

The exam is in three parts. Pay very close attention to specific wording of the questions. I have selected the action words intentionally.

Part 1 is titled ‘key concepts’. This section of the exam should take no more than 15/20 mins. Answer all questions.

  • You will be asked to define 10 core concepts from Thomas Piketty’s book ‘Capital in the 21st Century’.

Part 2 is titled ‘short responses’. It has four questions. It should take no more than 30 mins. Answer all questions.

  • First, you will be asked to explain the significance of a certain concept that we have been using throughout the course.
  • Second, you will be asked to describe the structural transformation of capital over time.
  • Third, you will be asked to explain the difference between different types of inequality.
  • Fourth, you will be asked to explain the rise in inequality of a certain country.

Part 3 is titled ‘short essays’. It has seven questions. You must answer two of these questions. This section should take no more than 55/60 mins.

Under absolutely no circumstances should you try and learn off essays by heart.

It is a formative exam to assess your knowledge and understanding of the course, whilst providing you with an opportunity to showcase your analytic, creative and critical thinking skills.

Don’t stress over the exams. Try to enjoy the process. Learning is fun and interesting. But it requires applying the strategic tools of study.


Slides: Lecture 22

Lecture 21: The Democratic Trilemma in the Eurozone

The central issue is simple: democracy and the public authorities must be enabled to regain control of and effectively regulate 21st century globalised financial capitalism. A single currency with 19 different public debts on which the markets can freely speculate, and 19 tax and benefit systems in unbridled rivalry with each other, is not working, and will never work. The eurozone countries have chosen to share their monetary sovereignty, and hence to give up the weapon of unilateral devaluation, but without developing new common economic, fiscal and budgetary instruments. This no man’s land is the worst of all worlds. 



The proximate cause of the Euro crisis is a banking collapse. The ultimate cause, however, can be traced to structural imbalances that emerged form joining together distinct national models of capitalism into a single currency, without a fiscal state or a banking union.

For a brief explanation as to how the European Council works, see this video. For an explanation of the Euro Summit (meetings of heads of state of the Euro area), see this link.

To understand the policy response to the Euro crisis it is useful to consider the interactive effect of interests, institutions and ideas. 

The banking crisis in Europe has cost almost $4 trillion. By the end of 2009 German banks, alone, had lent $720 billion to Greece, Ireland, Italy, Portugal and Spain . French banks had lent $493 billion.

Collectively, Eurozone banks were exposed to $727 billion in Spain, $402 billion in Ireland, and $206 billion in Greece.

European bank exposure

Explaining the response

Why then has the policy response to the Euro-financial crisis almost entirely focused on budget deficits?

To answer this question we need to examine how the institutional decision-making process of the EMU interacts with the domestic ideational and material interests of its member-states.

In political economy, comparative responses to international crises are usually attributed to variation in domestic producer group coalitions.

National governments negotiate international treaties in the interest of those sectors of the economy that give them comparative advantage.

We can think about how to explain the policy response to the Euro crisis in terms of ideas (epistemic elites) and interests (political coalitions).

Economic ideas

Economic ideas are not just instruction sheets for what governments should do. They are a power resource that enshrine very different conceptions of how the burden of adjustment should be distributed.

They are never purely technical decisions.

Initially, when the financial crisis hit, the governing ‘neoliberal idea’ of free efficient self-correcting financial markets was discredited. Policymakers in most countries pursued an immediate Keynesian response.

Brazil, China, USA, and Spain lined up to stimulate their economies. But this Keynesian reprieve barely lasted 12 months. Why?

In the Euro area, and at international summits, Germany led the charge against stimulus and called for a return to fiscal austerity and structural reform as a policy solution to the crisis.

The new idea was ‘growth enhancing fiscal consolidation’.

Where does this idea come from?

The German ordoliberal idea is built around an instruction sheet that suggests the job of government is not to correct market failures but to set and enforce rules.

Nation-states provide safety nets, ensure that cartels do not develop, limit unproductive speculation, impose strong budgetary discipline, and ensure a politics of order and stability.

Policy failures by government not markets make crises.

The export-led German coordinated market economy has been successful with this instruction sheet. But can all countries follow it?

The policy response to the Euro assumes that if all Euro countries follow a Northern european economic instruction sheet (government stability, fiscal austerity and structural reform of the labour market) they will converge.

The problem is that peripheral and southern Europe states do not have the domestic institutions to make this export-led instruction sheet work.

A varieties of capitalism framework suggests that countries will increasingly diverge from one another.


At the G20 summit in 2010 the international ideational climate radically changed. Jean Claude Trichet, the then President of the ECB wrote in the Financial Times:

Stimulate no more – it is now time for all to tighten

Soon afterwards, the German finance minister Wolfgang Schäuble published an opinion piece in the FT where he outlined what would become the Euro strategic discourse until today:

Europe needs expansionary fiscal consolidation

The ECB followed with their June 2010 monthly bulletin, and called for:

Growth friendly fiscal consolidation


In 2010 – Greece received European financial assistance (110 billion) in return for a 20 percent cut in public sector pay, pension cuts and structural reform.  In 2011, an additional 110 billion was provided with a 20 percent cut in spending required in return.

In 2010- Ireland received European financial assistance (60 billion) in return for a 24 percent cut in public spending.

In 2011 – Portugal received financial assistance (78 billion) in return for a 25 percent cut in public spending + structural reforms.


Politics in hard times

Fiscal adjustments in the Euro periphery have been shaped by both international constraints (EMU) and domestic politics. But the near convergence on the policy of ‘austerity’ is a puzzle.

At the European level the policy response is negotiated through the EU Council.

The response has not been to build common fiscal institutions as a complement to monetary union. The response is to impose stricter fiscal rules on each member-state.

Democratic choices have been constrained in favor of maintaining the nation-state and preserving the single currency.

The Euro trilemma 

This is the new Euro trilemma, outlined by the economic historian, Prof Kevin O’Rourke, and depicted in the figure below.

EU Trillemma

The first choice facing national governments in the context of increased European integration is between prioritizing national policies or shared polices.

Where policies are nationally determined (as is the case for wages, social welfare, pensions, and taxation) there is the risk that one nation-state can impose a cost another nation-state.

Alternatively policies can be jointly coordinated between member-states. Policies are ‘Europeanized’ (as is the case in agriculture and monetary policy).

Discuss: should economic, fiscal and banking policy be coordinated at the Eurozone level?


If we accept more European integration is necessary to preserve the currency then member-states face the dilemma as to how to legitimize their economic decisions.

Economic policies can be delegated to non-political technocratic institutions such as the central bank and the EU Commission.

If this leads to welfare enhancing outcomes (stronger growth and employment) then such decision-making can legitimized on the basis of ‘outputs’.

Alternatively, economic decision-making  can be delegated to democratically elected representatives who are accountable to their national electorates.

In some cases, it makes economic sense to delegate decision-making to technocratic institutions with non-negotiable rules. For example, banking regulations in the Euro area.


But the electorate in most national jurisdictions want to hold their national executives to account for decisions (and shared policies) taken at the European level i.e. input legitimacy.

Member-states (and electorates) then face a choice whether economic policy and political decision-making should be determined by intergovernmental means or federal procedures.

If the intergovernmental process prevails, then the EU Council gets priority. This means decisions will be shaped by the bargained interests of national executives in the Council.

If the federal process prevails, then the EU parliament (or the creation of a Euro budgetary parliament) would determine economic policies, as suggested by the Lisbon treaty.

Presently the Euro area is stuck somewhere between these two modes of governance. Decisions are taken in the Eurogroup, which has no formal legislative legitimacy.


European integration is legitimated and accountable to public opinion through national executives (via the EU Council), which tends to give priority to the interests of larger member-states.

The implication is that national policy discourses (Germany versus Greece) rather than European wide policy discourses tend to prevail.

Ask yourself is decision-making in the European council, the Euro group and Eurozone summits sufficient to legitimate the present trajectory of European economic integration?

Thomas Piketty suggests that this is not sustainable and has called for a new European manifesto that includes a Eurozone budgetary parliament. Do you agree?

Lecture slides Lecture 21

Lecture 20: The Euro Trilemma and Democratic Legitimacy


Since 2009, distributional conflict under democratic capitalism has turned into a complicated tug-of-war between global financial investors and sovereign nation states.

This tension is amplified in the European monetary union because the tools of economic adjustment, available to national governments, are severely constrained.

Membership of the Euro means that the burden of adjustment is shifted on to public finances (fiscal) and wages and employment (labour market).

Competitive nationalisms 

The institutional design of EMU means that governments must pursue an ‘internal devaluation’ to reduce their debt and deficit.

This is particularly the case for those member-states in the Euro periphery in receipt of non-market financial funding from the Troika.

But to reduce debt-to-GDP ratios, governments must simultaneously encourage economic growth, which is to be achieved through increased liberalization of markets and export-growth.

All member-states are confronted with implementing tough wage and budget cuts, which reduces aggregate demand and income, whilst competing against each other for investment.

These are not technical decisions made by economic engineers in Brussels but political parties who must respond, and be accountable toward, the concerns of the electorate.

Democratic capitalism

Most political parties and governments across Europe who have implemented ‘austerity’ have been punished by their electorates.

But do governments have a choice?

This distributional tension, between the competing interests of ‘competitive markets’ and ‘democratic politics’, is the core theme underpinning our course.

For Wolfgang Streeck, the tension between market allocation and social rights, implicit within democratic capitalism, has manifested itself in four different ways since 1950:

  • Inflation
  • Public deficits
  • Private indebtedness
  • Sovereign indebtedness



In the 1960’s strong trade unions bargained for higher wages in an ideational context where governments were committed to full employment via the Keynesian welfare state.

But in a context of slower economic growth this wage-induced inflation generated problems of unemployment, which became increasingly costly to governments.


Inflation came to an end when governments, particularly in the 1980’s, gave up their commitment to full employment and Keynesian demand management.

Previously it was assumed that the electorate would punish political parties for the resulting levels of high unemployment. This did not happen.

But it did generate a fiscal crisis of the social state. It created a new problem: how to fund expenditure on public services in a context of growing wage and pension costs?

Public deficits 

Governments initially responded by increasing public debt, pursuing currency devaluations and running high fiscal deficits.

The distributional tension played itself out between electorates and national governments within a context of regulated capital flows.

In the late 1980’s and early 1990’s this debt-financed expenditure came to an end with global capital liberalization.

Most governments cut expenditure, adopted a hard currency stance, and tried to actively liberalize their labour markets.

This created an problem of how to sustain high levels of consumption with insecure workers, low levels of income growth and consumption and rising inequality i.e. aggregate demand.

Private debt

Governments responded by deregulating the finance market. Private household debt replaced government public debt. Private credit replaced real wages. This maintained growth.

This is often described as privatized Keynesianism. The distributional tension was managed within private finance and housing mortgage markets.

Private debt

But the problem of rising private credit and household debt created a whole new set of problems, which were radically exposed during the Euro crisis.

When the sub prime mortgage market in the US collapsed, financial markets panicked. Governments stepped in and saved the private banking sector.

Wolfgang Streeck’s core point is that the problem of how to manage the distributional problem of democratic capitalism keeps moved. It can never be resolved.

Sovereign debt 

The outcome of saving the private financial sectors was rising public sovereign indebtedness. This is precisely where the Euro area is today.

The distributional tension is played out between taxpayers, national governments, the EMU and global financial markets.

Sovereign debt

For a precise analysis of the distributional impact in each member-state within the Euro periphery, read this article.

The global trilemma 

Assuming that Euro countries are not likely to leave a monetary union (even if they suffer years of one-sided deflation and austerity), is it possible to imagine a political-fiscal union emerging as a complement to monetary union?

This is a political question that requires giving up nation-state sovereignty, and brings us back to what is often called the ‘global trilemma’ in international economics.

The global economic trilemma suggests that you can only have two of the following:

  1. A fixed exchange rate,
  2. A sovereign monetary policy
  3. Global capital integration.

From a political economy perspective Dani Rodrik argues that what this means is that we can either:

  1. Restrict the democratic welfare state in the interest of minimizing the international transactions costs of globalization
  2. Limit the globalization of international capital and build a social state within national borders
  3. Globalize the democratic social state as a complement to global capital markets.

If we want both globalization and democracy we have to give up the nation-state.

The European Union (EU) is undoubtedly the most successful case of attempting to govern beyond the nation-state. But at what cost?

The Euro trilemma

The EMU is a radical response to the global trilemma in that it  combined complete capital mobility with complete abandonment of national monetary sovereignty.

Member-states of the EMU have accepted deep market integration. The political choice, now, is between national politics (less integration) and shared policies (more integration).

If member-states accept more European economic integration (which seems to be the case, for example, on banking union) then the choice is more democratic or technocratic decision-making in the Euro area (ECB, EU Commission).

To complete the monetary union member-states need to go down either the intergovernmental or federal route.

EMU is stuck somewhere in the middle. Monetary union plus the nation-state, with the implication that democracy must be constrained.

German voters don’t want a budgetary union, or a common Eurobond, and Irish voters don’t want tax harmonization. It is a collective action problem.

Lecture slides: Lecture 20

Lecture 19: Austerity and the New Politics of Public Debt


Public debt is a question of the distribution of wealth, between public and private actors. Europe has the highest amount of private wealth in the world and the greatest difficulty in resolving its public debt crisis. What explains this strange paradox?

The world is rich but the governments of the world are poor. In this lecture, we will discuss the new politics of public debt and austerity as a distributional (not a technical) problem.

The Eurozone 

In 2008, the Eurozone experienced a ‘sovereign debt’ crisis. Public debt now averages around one year of national income in most member-states (approximately 90 per cent of GDP).

But this varies significantly between member-states of the Eurozone. See the graph below.

Publiuc debt

Most of the increase in sovereign public debt since the great recession in 2008 was an outcome of the public sector ‘bailing out’ the private sector and the collapsed revenues associated with declining economic growth.

The EMU is a radical experiment in trying to manage a single currency without a state.

A stateless currency

The EMU does not have federal fiscal or budgetary union capable of absorbing asymmetric shocks.

This absence of shock absorption at the European level was radically exposed during the crisis. Banking and fiscal policy were nationalized whilst monetary policy was Europeanized.

The cost of the collapse in the banking sector in Ireland is paid by national taxpayers not the federal currency union. Banks are global in life but national in death.

In the absence of a functioning central bank, capable of acting as a lender of last resort, financial markets panicked.

The interest rate charged on ten year bond yields skyrocketed and some countries were priced out of international markets, with the implication that they had to seek a loan from the ‘Troika’.

It is the interest rate rather than the size of the public debt that matters.

The origins of the crisis

The origins of the sovereign debt crisis in Europe are both domestic and international.

From 1999, all EMU member-states transferred monetary sovereignty to the European Central Bank (ECB). This was created as the most independent central bank in the world and modeled in the tradition of the German Bundesbank.

The European treaties specify that the ECB’s  primary mandate is price stability, not economic growth, maximizing employment or financial market stability.

Up until 2008, everything seemed fine in the stateless currency. Interest rates converged. Households, firms and governments could borrow cheaply.

This convergence in financial markets was assumed to equal economic and political convergence.

But the political foundations of national economies continued to diverge. Portugal did not become Austria. Germany did not become Italy.

Divergent growth regimes 

This difference between member-states would not be a problem in a political federal union i.e. between California and Delaware in the USA. But it is a problem in the EMU.

Capital flowed from richer core member-states (Germany) to poorer peripheral member-states (Greece) fueling asset price bubbles in Spain and Ireland, and public debt in Greece.

One way to observe this divergence or ‘macroeconomic imbalance’ is to examine the current and capital account of member-states. Up until 2008, most trade was internal to the Euro area, which became, in effect, a semi-closed trading bloc.

Regan & Johnston

Source: Johnston & Regan (2014)

Macroeconomic imbalances

Prior to the monetary union, these different political economies could co-exist, without producing imbalances, because each member-state had macroeconomic tools to adjust their economies when confronted with an economic shock.

This is no longer the case.

In the absence of exchange rate adjustments (improving competitiveness by changing the price of currency), member-states must implement ‘internal devaluations’ i.e. austerity.

Eurozone rules

In agreeing to join the European monetary union ,all member-states agreed that they cannot have a public-debt to GDP ratio of more than 60 per cent or budget-fiscal deficits that exceed 3 per cent.

These rules were first broken by Germany, then France, Italy and Greece.

Other than these rules, the EMU did not generate the capacity at European level to deal with asymmetric economic shocks. It was an unprecedented experiment in international regional cooperation: creating a currency union without a state.

Fragile union

The fragility of the EMU was radically exposed in 2008. When the US subprime mortgage crisis spread to Europe, regional banks in some countries collapsed, economic growth declined, property bubbles burst and government revenue declined.

In the absence of a central banking capable of acting as a lender of last resort financial markets panicked.

Government bond yields shot up. Interest rates diverged. Peripheral member-states of the Euro area were priced out of the markets and had to resort to a Troika loan, with strict conditionalities.

Bond yields

No lender of last resort

The important point to note is that the fiscal and sovereign debt crisis in the euro area was a consequence not a cause of the economic crisis.

The sovereign debt crisis could have been avoided if the ECB had the capacity to act as a lender of last resort. But the ECB does not have this mandate.

The ECB eventually resolved the sovereign debt debt crisis when Mario Draghi issued a press release in 2012 signaling that he would “do all that is necessary to save the Euro”.

But the damage had already been done. Investment in peripheral member-states collapsed, unemployment skyrocketed, and trust in the EU evaporated.

Who pays?

The question of who pays for this financial-banking collapse in the EMU reveals the tense relationship between capitalism and democracy; markets and citizens; investors and taxpayers.

It also reveals the limitations of the nation-state in governing global markets.

Rather than tax wealth and capital, governments borrow from those who hold wealth and capital in the form of government issued bonds. A marginal increase in the interest rate can effectively make sovereign states insolvent.

For Piketty there are three ways to tackle sovereign debt in Europe:

  • taxes on capital
  • inflation
  • austerity

Inflation was the main strategy, historically, in how nation-states dealt with public debt. In Europe today, the strategy is austerity, or internal devaluation.  But what exactly does this mean?


It means reducing public expenditure and increasing taxes, whilst trying to reduce wage and labour costs, as a mechanism to reduce public debt and budget deficits.

In theory, European governments could reduce all public debt by privatizing all public assets.

This means the government would pay rent to private actors who own schools, hospitals and police stations rather than pay interest on public debt to fund these public services.

This is not likely to happen. But it underpins a lot of the criticism of the introduction of water charges in Ireland.


Piketty suggests that a progressive tax on capital-wealth (not just bank deposits but all assets including shares) is the optimal strategy to deal with public debt.

He propose a capital-wealth tax at a rate of 0 per cent on up to 1 million, 10 percent between 1 and 5 million, and 20 percent above 5 million. In one swoop this would reduce public debt by 20 percent of GDP.

Alternatively, the same rates of 0, 1, and 2 percent over 10 years would yield the same result.

In distributing the burden of adjustment for the banking collapse governments have decided to not tax capital-wealth.

Why do European governments not tax capital to deal with the public debt crisis, as suggested by Piketty?

This would require nation-states giving up more fiscal sovereignty to European policymakers, which the electorate don’t want. Neither the nation-state nor Europe has the problem solving capacity to implement such a strategy.


What about inflation as a strategy to reduce public debt?

An inflation rate of 5 percent per annum would allow governments to reduce their debt by more than 15 percent.

It was this type of inflation that allowed Germany to embark on its post-war reconstruction without creating a sovereign debt crisis (in addition to massive financial assistance from the USA).

If there is no inflation, and no tax on capital, and a growth rate of 2 percent per annum, then the only choice is to cut spending and wages.

But this austere strategy will take countries such as Greece over 20 years to reduce their debt to GDP ratio by 20 percentage points. It is highly questionable whether such a strategy can be pursued within a democracy.


Public debt and fiscal policy are distributional dilemmas not technical problems.

For example, the Irish government spends more on debt interest re-payment as a percent of it’s GDP than it does on its universities.

Public debt is another persons private wealth. It is a form of redistribution between the public and private.

Net private wealth in Europe is equal to 600 percent of GDP. The public sector (government) is in net debt. They must tax citizens and borrow from those who own capital-wealth to fund public services and provide social rights to their citizens.

There is no ‘technical’ solution to these distributive dilemmas. It is a political economy problem that reflects an in-built tension between competitive markets and social rights.

Lecture slides Lecture 19

Lecture 18: The Comparative Politics of Redistribution

Is there a paradox in globalisation?

Dani Rodrik argues that a delicate balance exists between democracy and processes of international economic integration. This is often described as the global political trilemma, which suggests that there is a political tradeoff between deep international economic integration, the nation-state and strong democratic accountability.

We can only have two of these. If we want democracy and globalization we have to give up the nation-state. If we want democracy and the nation-state we have to give up globalization. If we want the nation-state and globalization we have to give up democracy.


The starting point of Rodrik’s argument is that open markets succeed only when they are embedded within social, legal and political institutions, which provide them legitimacy by ensuring that the benefits of capitalism are broadly shared.

This is similar to the idea of ’embedded liberalism’, associated with John Ruggie, and the idea of the ‘double-movement’, associated with Karl Polayni.

Different societies have different preferences in terms of how they structure the institutions required to ensure a balanced relationship between competitive markets and social rights  (and what we have described in this course as different national models of capitalism).

Democratic pressures are likely to lead to a variety of different institutions across different territories. For example, French citizens tend to accept higher levels of taxation than Americans. What explains the difference in policy preferences toward redistribution among middle income voters?

The diversity of national democracies inhibits the global integration of markets by raising transaction costs across national jurisdictions. It also leads to competition between democratic states, for example, reducing corporate tax rates, to attract investment.

Consequently, a world which is fully responsive to democratic preferences of citizens will be unable to achieve full globalization.

Full global market integration requires global democratic governance, which is not likely to happen, given the commitment to national sovereignty.

This is the core argument of the book The Globalization Paradox: Democracy and the Future of the World Economy. The following 5 steps, outlined by Dani Rodrik illustrate the point:

  1. Markets require a wide range of non-market institutions (of regulation, stabilisation, social protection and legitimation) in order to work well and remain legitimate.
  2. These institutions vary by nation-state, in the sense that ultimate goals such as efficiency or equity can be achieved under a variety of designs and blueprints.
  3. Different democratic societies, organised around their own distinct histories, have very different needs and preferences regarding the shape that market-supporting and market-correcting institutions can take.
  4. A world that is sufficiently responsive to democratic preferences will therefore be one of institutional diversity and heterogeneity rather than institutional harmonisation and convergence.
  5. Since institutional diversity (such as the European Union) inhibits the true global integration of markets by raising transaction costs across jurisdictional boundaries, a world that is sufficiently responsive to democratic preferences will also be one that falls short of full globalization.

Markets and government are complements not opposites. The market works best when the social state is strong.

To illustrate the argument, consider the Eurozone crisis, and the institutional design of the EMU.

National governments (nation-state) have to satisfy two very different constituencies in adjusting to the crisis: international markets and domestic electorates. If governments prioritize international markets they lose the capacity to be responsive to the democratic preferences of citizens (such as not bailing out the banks).

The anti-water-charges protest in Ireland is, arguably, a manifestation of this democratic tension, and reflects what we previously described as the fiscal crisis of the state in contemporary capitalism.

The global political trilemma is even more pronounced in the EMU. Why?

Eurozone member-states have delegated macroeconomic tools to an international organization (monetary policy), whilst fiscal and social welfare policy remains at the national level.

The Eurozone needs a banking and fiscal union to deal with the international financial crisis. But there are inter-country conflicts among national electorates on both of these issues. German citizens don’t want to spend their taxes on other countries and the Irish don’t want to give up their corporate tax rates. The nation-state prevails.

Consequently democratic preferences of citizens within nation-states are clashing with the functional needs for more European integration.

There is strong resistance (among electorates) to shifting more power to the European federal level (i.e. giving up the nation-state). The consequence is that neither the nation-state nor the EU has the capacity to solve the crisis, perhaps with the exception of the ECB. International markets reign.

What are the implications of this observation for the globalization paradox?

Democracy is compatible with national sovereignty only if we restrict European economic integration. If we push for more European economic integration while retaining the nation-state, we must jettison democracy. And if we want democracy along with European integration, we must shove the nation-state aside and strive for a federal state of Europe.

Slides: Lecture 18

Lecture 17: States, Markets and Comparative Capitalism


The state and the market represent two different ways of organizing human endeavor, and the relationship between them has always been a central preoccupation of political economy.

When economics became its own specialist discipline with the ‘marginal utility revolution‘ it fell to political scientists to inquire more deeply into the relationship between the economy and politics.

For the Eminent Harvard Professor, Peter A. Hall, the study of political economy can be distinguished from the study of economics because it is interested in three types of issues: power, institutions, distribution.

Power, institutions and distribution 

Let’s unpack the importance of power, institutions and distribution in the study of political economy.

  • First, political economy is the attempt to systematically inquire into the politics of power and therefore scholars are inclined to ask whose interests are being served by any given set of economic arrangements.
  • Second, political economy considers the ‘market’ as a set of institutions that varies across time and space. They are interested in how the comparative differences in these institutions affect policy outcomes.
  • Third, political economists do not treat the economy as based on natural market laws but the primacy of politics. They are interested in the distributive effects of capitalist markets and the power relations underpinning them.

Think about this in terms of the international financial crisis. What shaped the global policy response: technocratic engineering or political power games?

Within the study of comparative political economy there are three different theoretical frameworks of analysis: interests, ideas and institution based.


Interest based approaches to comparative political economy give specific priority to the material interests of the core actors being studied. These interest-based approaches can be divided into two schools of thought.

Producer groups 

‘Producer group’ theories attempt to explain variation across time and space in patterns of economic policy.

The unit of analysis is the nation-state and the central actors are producer groups. To explain variation in policy outcomes (such as taxation) scholars in this tradition trace the changing material interests of producer groups, and their relationship to the state (such as the role of organized employers in the tradable versus non-tradeable sector).

Producer group coalitions can be broken down in functional-production terms (workers, capitalists, farmers) or by specific sector (export versus sheltered), or asset specificity (mobile versus fixed). Pioneers of this type of research include Barrington Moore (1966) and Peter Gourevitch (1977, 1986).

  • For example, researchers in the producer-coalition tradition have attempted to explain why governments have responded differently to international economic integration by tracing variation to the different domestic producer group coalitions (whether employers are predominately export led or focused on domestic demand).
  • More recently, a similar approach has been adopted to explain why countries and sectors adopt different position on international exchange rate regimes. For example, why did Ireland and the Netherlands join EMU whereas Sweden and Denmark did not? All are small open European economies with different producer group coalitions.

Broadly speaking this theoretical approach tends to explain domestic policy change as a response to international economic constraints, and vice versa.

This approach has three powerful advantages.

  • First, it recognizes that any change in domestic economic policy must win the support of broad segments of society. Think about Italy in this regard. Governments are heavily dependent upon winning the support of different producer group coalitions (taxi-drivers, pharmacists, trade unions, small businesses) and are unlikely to be successful in reforming economic policy if they do not.
  • Second, it highlights that politics is always a distributional struggle over resources between organized interests, which exist outside the electoral cycle.
  • Third, it combines the study of comparative politics with international relations and therefore provides a causal mechanism often lacking in the latter when trying to explain ‘domestic’ policy outcomes.

But it also has serious shortcomings. It tends to not take electoral politics or political parties very seriously. Parties are treated as the agent of domestic producer group coalitions.


The second school of thought in interest based approach to explaining patterns of economy policy is the ‘electoral approach’. Individuals in the electoral arena rather than producer groups in the economy are seen as the central actors shaping government policy.

Policy change is explained by politicians reacting to the electorate in seeking re-election and economic policy is explained by the political business cycle.

Left-wing and right-wing governments, it is argued, behave differently.  For example, left leaning governments should lead to higher inflation and lower unemployment. Right leaning governments have lower inflation and higher unemployment.

This approach has significant strengths. It is reasonable to assume that the first priority of politicians is to seek re-election. But there are significant limitations to this approach.

  • First, governments regularly pursue medium to long-term objectives despite short-term electoral incentives. Think about the policy response to the crisis in the Eurozone.
  • Second, it is analytically attractive to assume a ‘median voter’ and a homogenous electorate with fixed preferences. But politics is far more complicated. Voters do not necessarily vote in their own material interest (think about this in terms of income).

Institution based

Institution based approaches generally seek to explain variation in distributional outcomes by examining the causal influence of the organizational structure of the economy. Institutions are conceptualized either as social norms or rules of the game that shape actor behavior.

The unit of analysis is usually the nation-state and the principal actors are important collectivities such as trade unions, employer associations or the corporate firm.

Institutions, it is argued, shape the behavior of actors, and institutions are sticky and path dependent. Unlike neoclassical economics that assume the potential convergence on competitive markets and homogenous institutions, the neo-institutional approach emphasizes the institutional divergences that persist across nations over time.

These differences give rise to qualitatively distinct models or national varieties of capitalism, which result in distinctive patterns of economic policymaking and performance.

There have been two broad schools in the institution-based approach: neo-corporatist and varieties of capitalism


  • Neo-corporatist research traces differences in labour market performance and welfare state outcomes to the organizational structure of trade unions and employer associations, and the extent to which they were either centralized or de-centralized.
  • Centralized trade unions were considered capable of internalizing the inflationary pressures associated with full employment. In response to globalization they can pursue wage-restraint as a complement to monetary constraints. This made them powerful macroeconomic actors (much like central banks).
    • Over time the emphasis was placed on the extent to which these actors could engaged in coordinated wage-setting as a complement to macroeconomic performance.
    • Some scholars emphasized the extent to which this would most likely occur if the country in question is a small state operating in a global market; whether trade unions were export-led or not; and the extent to which left-leaning parties were in government.

Varieties of capitalism

  • From the early 1990’s it was gradually recognized that coordinated labour markets were also related to the structure of industrial relations, vocational training and the financial system. Countries such as Germany had financial sectors oriented toward the long-term financing of industry with the implication that corporate strategies and patterns of economic policymaking were quite different from those countries with short-term finance (UK).
    • All of this led to the varieties of capitalism school of thought. This framework suggests that institutional structures interact in complex ways across different sub-policy spheres of the economy to create a matrix that shapes the strategies of corporate firms in a capitalist economy.
    • The dependent variable becomes ‘firm strategy’ (such as trying to explain why firms behaved differently in response to currency appreciation in Britain and Germany) and how institutions shape their behavior.

The rational choice institutional approach has three powerful advantages.

  • First, it moves far beyond conventional economic analyses that assume a one-size fits all competitive market or economic growth strategy.
  • Second, it brings the strategic interests of the business firm (corporation) back into the analysis of capitalism.
  • Third, it highlights the importance of strategic interaction in shaping patterns of economic policymaking, and therefore provides a ‘micro-foundation’ to the study of comparative political economy.

However, there are four serious limitations to the rational-choice institutional approach.

  • It tends to adopt a relatively benign view of the corporate firm and therefore underplays the importance of conflict in capitalist societies.
  • It has a tendency to downplay the importance of politics and the administrative structures of the state,
  • Methodologically,  it risks becoming tautological in the sense that we can end up with just as many varieties of capitalism as nation-states.
  • It is better able to explain stability than change.


Ideas based approaches generally seek to explain political economic change and policy outcomes by examining the causal influence of economic ideas.

There are three different approaches to this.

  • First, some scholars incorporate ideas into interest based approaches by analyzing the importance of ‘focal points’. Ideas act as focal points around which collective action problems (or coordination problems) can be resolved.
    • Garrett & Weingast (1993) employ this approach to explain why nation-states converged on a particular kind of approach to European integration, by examining the single market. In this approach material interests are the driving causal factor behind why member-states choose to liberalize trade but ideas act as focal points that enable all actors to reach shared agreement on a similar course of action.
  • Second, some scholars, such as Mark Blyth, give ultimate causal priority to the role of ideas in explaining why government choose a given set of economic policies. This approach tends to give priority to the importance of professional economic communities, for example, economists in the Ministries of Finance (think about the shift toward monetarism in the UK, and the Bank of England, or the importance of TK Whitaker in Ireland).
    • Ideas are assumed to be formed or influenced by political and economic elites and epistemic communities. These elites hold a certain worldview which they implement when they are in positions of state power, where they can effectively translate their ideas into policy.
  • Third, other scholars go behind the specific importance of ideas to give causal priority to cultural variables. Different economic ideas are cultural world-views and deeply intertwined in national histories, social discourses and language.
    • In a sense, one can think about this approach in terms of the strong anti-inflation stance in Germany, or their strong moral dislike of debt (schuld), which directly translate into ‘guilt’ or ‘responsible’.
    • Similar approaches to this cultural based political economy give priority to the way different kinds of knowledge and information are distributed in particular sectors of the economy.

The problem with ideas-based explanations is that it is not clear whether it is norms, ideas, discourse, interests, culture or ideology that are the causal factor behind economic policy choices. It is difficult to disentangle ideas from material interests.

Ideas clearly matter, and this is reflected in the policy preference for a particular kind of austerity package in Europe today (such the importance attached to the growth and stability pact, and the radical independence of the ECB).

But whether ideas precede or accede the primacy of material interests is hard to judge, and even harder to model.


These three approaches to studying the outcomes of economic policymaking are not mutually exclusive. But they do lend themselves to different causal propositions.

Think about this in terms of the the broad paradigm shift away from the Keynesian welfare state toward the neoliberal regulatory state.

Why were strong universalist redistributive policies adopted in some countries but not others? Why did they come to an end?

  • Interest based scholars tend to highlight the importance of building a coalition between farmers and industrial workers.
  • Institutional scholars emphasize the different strategic capacities of the state to engage in public investment.
  • Ideational scholars emphasize the role of epistemic communities among economic professionals in the state.

In many ways these frameworks reflect a difference between positivistic and cultural oriented approaches to causal inference in the social sciences.

This is reflected in how certain non-observables entities such as ‘institutions’ are conceptualized.

Actor-centered institutionalism 

There are three broad schools of institutionalist analyses in political economy: historical, rational-choice and cultural.


  • For historical institutionalists, institutions are a path dependent formal or informal set of rules embedded in the organizational structure of the polity or political economy.
    • They tend to emphasize the asymmetries of power associated with the origins (critical junctures) and development of institutions.
    • Institutions are conceptualized as a calculus that shape and constrain the actions of governments and firms.

In this analysis the economic policies governments will or will not pursue is dependent upon the broader institutional structure of the economy.

In Ireland, this means that government economic policy is shaped by the path dependent effect of it’s liberal oriented market: flexible labour market, low corporate taxes, subsidarity based public services, means-tested social welfare.

For example, is any government likely to increase corporate tax rates in ireland? Why not? One can hypothesize that no government is likely to risk undermining a core comparative advantage of its export-led sector.

Rational choice

  • Rational choice insitutionalists tend to celebrate the ‘positivist’ nature of their social scientific inquiry. Institutions are the functional rules of the game that reduce transaction costs. This tradition draws upon a Williamson approach to ‘new economics of organization’.
    • Douglas North developed these arguments and applied them to political institutions.
    • More recently many EU scholars use this approach to model decision-making in game theoretic terms, particularly in trying to explain why nation-states delegate sovereignty and decision-making to international organizations.

Social norms

  • Norm based, or sociological institutionalism, also has four distinctive characteristics.
    • First, institutions are more than just the rules of the game with an instrumental purpose. They are symbols, values, scripts, procedures and norms of appropriateness that give meaning to human action. Think about why we wait at a red light when there are no cars on the road.
    • Second, institutions matter because they prescribe norms of behavior.
    • Third, they highlight the interactive and mutually constitutive character of decision-making.
    • Finally, institutions emerge less because of a means-ends efficiency but because they give legitimacy to human endeavor.

Why would democratic states transfer monetary sovereignty to an international technocratic organization, such as the ECB?

Slides: Lecture 17

Lecture 16: The Fiscal Crisis of the Social State in the 21st Century


We have now analyzed the distribution of wealth and the structure of inequality since the 18th century. Inequalities of wealth are close to regaining or even surpassing their historic highs of the 19th century.

This begs the question – what is the role for government and the democratic state in shaping the politics of distribution in the 21st century? How do we resolve the endemic conflict between capitalist markets and democratic politics?

Market competition or social rights?

Increasingly governments have to satisfy two different constituencies: markets and voters. This friction is reflected in two competing principles of resource allocation: markets and social rights.

To give an example of the new constraints facing the democratic state consider the following: in the aftermath of the great depression the US President, Herbert Hoover, raised the top marginal income tax rate to 80 per cent.

In the aftermath of the great recession, the Obama administration struggled to increase it beyond 35 per cent.

The financial crisis revealed the importance of central banks (public institutions) and the social state in mitigating the worst effects of free finance markets. Absent state and central bank intervention, economies would have entirely collapsed.

Effective economic and social policy is not just about the level of income and capital taxation. But the capacity to raise tax revenue is the fundamental characteristic of how contemporary democracies manage capitalist markets.

The near collapse of public finances in the aftermath of the international financial crises was not an outcome of market imperfection. For Wolfgang Streeck it reflects a continuous and ongoing transformation of that fragile post-war creation that we now call democratic capitalism (a relatively recent creation in the long history of capitalist development).

The fiscal state

The role of the state in the economy has been constantly evolving, particularly since end of World War II.

But contrary to the assumptions of ‘neoliberalism’ the state is not in retreat. The state is just as involved in shaping economic and market outcomes today as it was in the 1970’s. What has changed is the function of the state.

On the one hand, nation-states require new transnational forms of governance to manage global financial markets, whilst on the other, the domestic social state is in need of modernization.

The simplest way to measure the role of the state in the economy (and society) is to look at the total amount of taxes relative to national income. Figure 13.1 shows the trajectory for Sweden, France, Britain and the USA.

Before WW1 the state had no real role in economic and social life.

With taxes equivalent to 7-8 per cent of national income, the state could just about manage those “regal” functions of managing a police force and an army. The state existed to maintain social order and defend property rights.

Between 1920-1980 the share of national income that rich countries began to devote to social spending grew substantially. It increased by more than a factor of 5 in Nordic countries. But between 1980-2010 the tax share stabilized almost everywhere.

The fiscal revolution of the 20th century is now over.

The social state

Tax revenue has stabilized at around 30 per cent in the USA, 35 per cent in Ireland, 40 per cent in the UK, 45 per cent in Germany, 50 per cent in France and almost 55 per cent in Sweden.

This growing tax bill has enabled the state to take on broader social and public service functions, which now consume between a third and a quarter of all government expenditure, depending on the country.

One half of this goes on health and education, whilst the other half goes on replacement incomes and transfer payments.

Politics is not just about elections. It is about making public policy, and public policy regimes vary significantly between countries: liberal, social and coordinated market economies are not the same.

Trying to explain these differences is a core part of the study ‘comparative political economy’.

Social rights

Public spending on health and education consumes around 10-15 per cent of national income in most developed market democracies today.

Primary and secondary education are almost entirely free for everyone in rich democracies (although countries like Ireland heavily subsidize private education as well). Public health insurance is universal in most European countries.

Replacement income and transfer payments now consume almost 15-20 percent of national income in European countries (because of high unemployment).

In most developed democracies the government taxes and pays out income to households as replacement income (pensions, unemployment compensation, family and children’s allowance). Pensions are the biggest component of this in most countries.

The growth of the fiscal state over the last century reflects the constitution of the social state. This, in turn, reflects the democratic demand for social rights: education, healthcare, pensions and in some countries – housing.

Modern redistribution

Modern redistribution is not primarily about transferring income from the rich to the poor but financing democratic public services and replacement incomes for the elderly. It is built around a logic of democratic rights not market competition.

Democratic questions pertaining to social rights will never be answered by abstract principles and mathematical formulas.

The only way to deal with democratic questions of social rights is through democratic deliberation. Furthermore, there are very few examples in history where social rights were won without struggle, conflict and political confrontation.

The political institutions that govern democratic debate and the rules of decision-making will, therefore, play a crucial role in shaping the politics and discourse of what constitutes fair distribution.

This is not just about comparative differences in electoral rules (majoritarian and proportional systems of representation) but the variation in the relative power resources of interest groups and the persuasive capacity of different social actors.


The revolution in the public financing of the social state is not likely to be reversed in any rich democratic country.

There are certainly huge constraints on expenditure and taxation, particularly as it pertains to pensions, but no country is likely to cut social spending back to 20 percent of national income.

On the contrary, there is pressure on the fiscal state to expand and to invest in various public services such as higher education, training, research, sustainable energy, digital communications and other forms of infrastructural investment.

This social pressure to expand and invest, however, confronts the market pressure to consolidate i.e. austerity.

Furthermore, the expansion of the fiscal state during the past 50 years was dependent upon one crucial condition that cannot be guaranteed: strong economic and productivity growth. This has slowed down almost everywhere.

Future debates about the fiscal and social state are likely to revolve around issues of economic growth, structural reform, public sector modernization and the consolidation of social spending.


The demand to reform the social state and improve the quality of public services is a very legitimate concern. Taxpayers tend to support public financing when they receive better quality services, and when they have higher levels of trust in government.

To tease out this fiscal crisis of the state discuss the following questions:

  • Should access to higher education be free?
  • Does it make a difference that it does not impact upon social mobility?
  • What about the right to retirement, does everyone have a right to a pension?
  • Who should pay for all this?

Lecture slides: Lecture 15

Lecture 15: The Global Inequality of Wealth in the 21st Century


In market democracies, the assumed equality of rights of all citizens contrasts sharply with the real inequality of living conditions among people. The normative justification of this inequality rests upon the assumption of merit.

Figure 11.11 illustrates why Piketty is concerned about inheritance. This has a tendency to undermine merit. In 1893 Durkheim assumed that liberal democracies would abolish inheritance and property at death.


The graph shows that for those born around 1970-1980, 12-15 percent of individuals will inherit the equivalent of what the bottom 50 percent of the population earn in a lifetime.

Piketty suggests that inheritance and rent are problematic in a democracy but inevitable in a market economy. Why? Because in a context of R>G inheritance will predominate over savings.

When Mario Draghi took over as president of the European Central Bank (ECB) his proposal to resolve the Euro crisis was to “fight against rents” in Europe. What he meant by this was the fight against monopolies.

For economists the term ‘rent’ is pejorative and assumed to equal the lack of competition, particularly in the non-traded services sector: education, taxis, hairdressers, pharmacists.

But historically ‘rent’ was a term that was used to describe any income that was earned from owning a capital asset.

What is Piketty getting at here? 

For Piketty ‘rent and inheritance’ are not an imperfection in the market. Rather they are the logical consequence of capital accumulation.

He is highlighting that market and economic rationality have nothing to do with democratic rationality. Democracy and social justice require specific institutions of their own, and these cannot be justified in terms of market competition.

When universal suffrage was instituted in the 19th century (and property voting abolished) it ended the legal domination of politics by the wealthy. But it did not abolish the economic forces capable of producing a society of rentiers.

Global inequality 

Let’s move on to examine why this matters at a global level.

Financial globalization and the inequality of R>G leads to a greater concentration of capital ownership. This automatically contributes to a structural divergence in the ownership of capital, particularly at the very top.

One way to observe this (the impact of the R>G inequality among the top centile) is to examine global wealth rankings (ranking of billionaires) and global wealth reports.

Both of these rankings illustrate that the rate of return on the largest fortunes has grown significantly faster than average wealth. See the latest Crédit Suisse report here.

Global wealth

Global inequality of wealth in the early 2010’s is comparable in magnitude to that observed in Europe in 1900-1910.

The top 0.1 percent own 20 percent of global wealth, the top 1 percent own 50 percent of global wealth and the top 10 percent own between 80-90 percent of wealth.

If the top 0.1 percent (4.5 million people) enjoy a 6 percent return on their wealth, while average global wealth grows at 2 percent a year, then after 30 years their share of global capital will increase to 60 percent.

Is this possible to imagine within the exiting structures of a democratic society?

Global tax

Piketty suggests that it is not, and therefore it requires some sort of political democratic intervention, hence his proposal for a global wealth tax. Other mechanisms to redistribute include: inflation, expropriation, nationalization.

The unequal returns to different types of capital assets (which is heavily dependent upon the initial portfolio size) and the fact that the highest fortunes grow faster than the rest, amplifies the inequality R>G.

All large fortunes, whether inherited or entrepreneurial in origin, grow at extremely high rates.

Once a fortune is established, the capital grows according to a dynamic of its own. Money reproduces itself.

But more importantly, inherited wealth accounts for more than half the total amount of the largest fortunes worldwide.

Hence the entrepreneurial argument does not justify all inequalities of wealth. Fortunes can grow far beyond any rational justification in terms of social utility. This is Piketty’s justification for a progressive annual tax on capital-wealth.

To quote him directly:

Every fortune is partially justified yet potential excessive. Outright theft is rare, as is absolute merit. The advantage of a progressive tax on capital is that it exposes large fortunes to democratic control

University endowments 

Another way to observe the fact that the greater the endowment of capital, the greater the return, is to examine the capital endowment of US universities. Table 12.2 reports the findings.

The average real rate of return was 8.2%. The higher rate of return is the outcome of sophisticated investment strategies.

Most of these top universities invest in high yield assets such as private equity funds, foreign stocks, derivatives, real estate, natural resources and raw materials. They tend not to invest in US government bonds.

These large returns on capital endowments largely account for the prosperity of the most prestigious US universities.

Should the US government tax these institutions higher and redistribute to poorer colleges?

Sovereign wealth funds 

Consider now the case of sovereign wealth funds and petroleum states. Unlike US universities we don’t know what the investment strategies of these funds are.

The Norwegian sovereign wealth fund is worth about 700 billion. 60 percent of money earned from Norwegian oil was reinvested into the fund, while 40 percent went to government public services and expenses.

The financial reports of the next two biggest sovereign wealth funds, Abu Dhabi Investment Authority and Saudi Arabia, are more opaque.

Abu Dhabi boasts an average return of 7 percent, whilst Saudi Arabia is approximately 2-3 percent. This is because Saudi Arabia primarily invests in US Treasury bonds.

At a global level, sovereign wealth funds hold total investments that equal $5.3 trillion, of which $3.2 trillion belongs to petroleum exporting states. This is the same as the fortune of all the worlds billionaires.

Petro states

As oil becomes more scare and its price increases, the inequality R>G would imply that the share of global capital going to petro-states could reach 10-20 percent.

This would not bode well for democracy, as it implies growing economic dependence on oil-producing states.

Their populations are often tiny but their investments are huge. Can we imagine a democracy blocking sovereign wealth funds from buying up real estate or other assets in a country?


A large portion of the global capital stock is accumulating in Asia, particularly China.

In borderless capital-markets, inward Chinese investment is causing some political tension. See figure 12.5.

The big difference between China and the small Arab oil-producing states is that Asian populations are huge. Most of their future investment is likely to be spent on their own domestic populations.

The total real estate and financial assets, net of debt, owned by European households is 70 trillion whereas the sovereign wealth fund in China is less than 3 trillion. Rich countries are being taken over by domestic oligarchs not China.


Wealth in most western democratic countries is private and cannot be mobilized by governments for public purposes. The Chinese recommended to the EU to mobilize private capital to solve the Greek debt crisis.

But the EU cannot regulate, tax or mobilize the capital and income it generates within it’s member-states. Small states compete with each other to reduce capital taxation at the very moment when public expenditure is increasing.

Cautious estimates suggest that unreported financial assets held in tax havens amount to nearly 10 percent of global GDP. Most of this belongs to residents of rich countries.

To overcome these contradictions Piketty proposes a global tax on capital wealth, particularly within the European Union.

Is this feasible?

The slides: Lecture 16