Lecture 7: The Structural Transformation of Capital in Europe Since the 19th Century


Over the last few weeks we discussed the main stages of income and economic growth since the industrial revolution. We also discussed the history of ideas underpinning classical and critical political economy.

We found that, on average, the economy has grown by 1-2 percent per annum whereas the rate of return on capital is 4-5 percent. This means that in the long-term the importance of capital (wealth) will increase relative to income (real economy).

This is not a market failure.

What it suggests is that when markets are left to their own devices they will produce the inequality R>G. The more ‘perfect’ the capital market the greater the R>G inequality.

This week we are going to analyze the structural transformation of capital (public and private) in Britain, France and Germany, from 1870-2010.

To do this we also need to analyze the importance of public debt and inflation. Public debt is private wealth.


For Piketty, the best way to analyze the importance of capital (wealth) within a society is to measure the total amount of capital stock as it relates to national income. This is expressed as the total amount of capital owned at a given point in time divided by total yearly income. This calculation gives us the capital/income ratio, denoted by the greek symbol β.

If a country’s total capital stock is equal to six years of national income we write β = 6 (or 600 percent). If the stock grows, wealth grows. This in-itself is not a problem. It becomes a problem when all the wealth is owned by a small group of people.

In Piketty’s theory, when the rate of return on capital exceeds the rate of return to national income, the capital/income ratio β grows. Note that the capital-income ratio in most western capitalist democracies, today, is between 500-600 percent (or 5-6 times national income).

In concrete term, that means, for example, in the UK, national wealth/capital equals 5-6 times 2.4 trillion dollars.

In fictious novels of the 19th century the rate of return to capital (wealth) was widely discussed. Wealth was a stable monetary marker. In Jane Austen’s novels it usually takes two forms: land and/or government bonds. This form of wealth may seem old fashioned in a period of ‘dynamic financial capitalism’.

But have things really changed that much?

Private/public wealth

Owning a capital asset has one purpose, and this hasn’t changed at all. The purpose is to produce a reliable steady income.

That’s exactly what land and government bonds provided in the low growth, zero-inflation economies of the 18th and 19th century. Hence these countries had high and stable capital-income ratios.

For Piketty, the implication of this, particularly during the 19th century, is that low growth economies are capital dominated societies. Capital income from wealth accumulates faster than labour income.

But what exactly is a government bond that made these Jane Austen characters so wealthy?

It is a claim of one portion of the population (those who lend to government and receive an interest) from another portion of the population (those who pay taxes to the government).

Government debt is always another person’s private wealth.

In the aftermath of the international financial crisis, taxpayers are regularly reminded that their state is in ‘debt’. But to whom exactly do taxpayers owe this money?

Ask yourself the following question: Has the structure of capital from the 19th century become more dynamic and less rent-seeking?

For Piketty, capital at its inception is always risky and entrepreneurial but evolves into rent when it accumulates into larger amounts. To make this point he uses the character of Père Goriot (a classic Balzac novel). Goriot gets rich as a pasta manufacturer and then invests his wealth in government bonds, only to be deceived and abandoned by his daughters.

Capital in Britain and France

Figures 3.1 and 3.2 illustrate the capital/income ratio in Britain and France from 1700-2010, and demonstrate three important social facts about the economic structure of British and French society from the 18th – 20th century (the countries for which we have the longest data).

  • First, the capital/income ratio followed a similar u-shaped curve.

The total market value of national capital fluctuated between 6 and 7 times national income between 1800-1914.

After WW1, and up until 1970, it collapsed to 2 and 3 times national income. It has since climbed back up to 6 times national income in 2010.

These are very large swings and reflect the serious distributional conflicts during the 20th century, when the ownership of wealth and capital was highly contested, politically.

For Piketty, the rise in capital/income ratios suggests ‘wealth is back’ and flourishing. But the overall value of capital (wealth), measured in terms of national income, has not changed that much.

  • Second, despite the stability of capital/income ratios, the composition of capital has totally changed over time.

Capital-assets are no longer agricultural. They have been replaced by buildings, business, financial and real estate.

Remember national capital = farmland + housing + other domestic capital + net foreign capital.

What figures 3.1 and 3.2 demonstrate, most clearly, is the collapse in the value of farmland. But ask yourself what has replace this?

It was counterbalanced by a rise in the value of housing and domestic capital (the industrial/financial assets of private firms and government). As I will suggest later in the course, I think Piketty under-estimates the significance of housing capital as a determinant for rising capital/income ratios. This is important, because it heavily impacts political preference formation.

  • Third, net foreign capital was highly significant in the 19th century but not anymore.

British and French citizens could yield a significant income through colonial ownership.That is, rich citizens of these imperial countries could increase their wealth through colonial power.

The advantage of owning another country’s resources is that you can consume and accumulate without having to work. The colonies produced and the colonizers consumed.

With decolonization these foreign assets evaporated: this role for imperialism in capitalist accumulation, throughout the 20th century, is a core factor in explaining western European wealth.


The core inference from all of this is that national capital has preserved its value in terms of annual income but it’s composition has totally changed (from land to real estate and finance).

But does this structural transformation of capital imply that wealth has become more dynamic and more entrepreneurial? This is an important question to ask yourself.

Before we explain the revival of capital since WW2 we need to analyse the politics of public debt. To do this, we need to examine whether national capital (wealth) is publicly or privately owned.

Government debt

The division of property rights between government and private individuals (states and markets) is a very important political question. We usually only ever hear about government liabilities or government debt. But what about government/public assets?

Public assets (wealth) can be financial (think about the oil-producing sovereign wealth funds underpinning the Middle Eastern monarchies) or non-financial (think about public hospitals or universities). But for the most part, states have more public debt than public wealth.

Britain and France offer two very different case studies on the relationship between public debt and private capital.

  • In Britain, at the end of WW2 (and after the Napoleonic wars) public debt was over 200 percent, but Britain never defaulted.

The British monarchy never collected enough taxes to pay for their wars. Rather they raised revenue by borrowing from private individuals (thereby increasing the private wealth of their richer residents and in turn: rising capital/income ratios) rather than taxing them. Taxation was a 20th century phenomenon.

Britain’s economy grew at a steady rate of 2-3 percent from 1815-1914, so after a century, they eventually reduced their debt-GDP ratio, which was accumulated in the 19th century. In the 20th century they primarily got rid of public debt through inflation. But they never defaulted.

  • In France, at the end of WW2 (and after 1798) the French government defaulted and cancelled all of its public debt. They choose to create a large public sector instead.

This meant that they took capital away from the private sector and placed it in the public sector.

Think about the recent financial crash, and the post-crisis policy response, and the relationship between private wealth and public debt.

The Irish bank bailout cost 64 billion (40 percent of GDP), and was designed to cover the private liabilities of six financial institutions: AIB, Bank of Ireland, EBS Building Society, Irish Life & Permanent, Anglo-Irish Bank and Irish Nationwide. The cost of the bank bailout was approximately €8,956 per person.

How does the Irish government (taxpayer) repay this debt? Or more precisely, who pays it?

From a private financial market perspective it is obviously far more advantageous to lend to governments and receive an interest/payment than to pay higher taxes without compensation.


Investing in public debt (buying government bonds) at 4-5 percent interest in a context of slow growth and zero inflation is a pretty good investment.

In the 20th century many governments, particularly those in France, borrowed from private investors to fund public services and therefore rising public debt was specifically aimed at redistributing resources to lower-income households. But this debt was evaporated (paid off) by inflation.

From 1914-1950 French inflation was approximately 13 percent per annum. This means that a government bond bought in 1913 was worthless twenty years later. Inflation enabled the French government to ‘inflate it’s debt away’, whilst simultaneously re-building their social state.

Germany did the same.

None of this is meant to suggest that redistribution by inflation is a good idea, or an optimal strategy to manage the public-private wealth dynamic. It cannot work indefinitely. But it is important to note that public debt is a vehicle of redistribution whether it is repaid or not. It’s a strategy to mobilise private wealth for public gain.

Public assets

Enough about public debt, what about the evolution of public wealth/assets?

Figures 3.3 and 3.4 reflect a steady expansion, albeit modest, of the economic role of the state in France and Britain.

The total value of public assets (primarily public buildings, national industry and infrastructure) rose from 50 percent of national income in the 19th century to approximately 100 percent in the early 21st century.

These public assets peaked during the interventionist years, from 1950-1980, and were then followed by major waves of privatization after 1980.

Figure 3.6 is indicative of the interventionist years in France.

It is important to keep in mind the changed ideational climate after WW2. The period of laissez-faire during what is often described as the first era of globalisation, (1870-1913), was widely considered a policy failure that contributed to war and recession.

The French nationalized many parts of their banking and automobile sectors (the owner of Renault was arrested as a Nazi collaborator in 1944) after the war, giving rise to an economic system of ‘dirigisme‘. From an economic ideas perspective, France considered the weakness of their state a causal factor behind German invasion, therefore they wanted to strengthen the state.

By 1950 public wealth in France was worth one year of national income whereas private wealth was worth two years of national income. The government owned 30 percent of the nation’s wealth. This is not a communist regime, but it’s certainly a state-led variant of capitalism.

France had a mixed economy, or capitalism without capitalists. The biggest firms were public not private. This all changed from the late 1980’s and 1990’s when the new era of Europeanization, liberalization and privatization was instituted.


How does all of this compare with Europe’s other ‘great nation’, Germany?

Figure 4.1 shows that the evolution is very similar.

  • First, agricultural land gave way to residential and commercial real estate.
  • Second, the capital/income ratio has grown steadily since 1950.

But note one important difference. Germany never had a net foreign asset position during the 19th century (it was not a colonial power), but it has amassed substantial foreign assets over the past few decades, primarily because of it’s large trade surpluses.

Germany’s net foreign asset position is equal to 50 percent of national income, a significant amount, and over half of this has been accumulated since 2000.

  • Germany, like France, got rid of its public debt throughout the 20th century via inflation, which averaged 17 percent between 1930 and 1950.

The hyper inflationary strategy during the 1930’s destabilized German society. This arguably underpins the paradoxical situation in Europe today. Germany is absolutely opposed to any price increase that exceeds 2 percent per annum, despite being the country that resolved its public debt in the past via the inflation mechanism.

Britain, on the other hand, always repaid it’s debt, and today it does not have the same fear of politically induced inflation. For example, the UK is happy to allow its central bank to buy a substantial portion of its public debt (monetary policy), regardless of the asset-price inflation effect.

Germany also engaged in large asset purchases of its banking and automobile sectors during the interventionist years of 1950-1980. The government owned almost 30 percent of national wealth during the decades of postwar reconstruction.

The state of Lower-Saxony still owns 15 percent of Volkswagen shares today (and therefore 20 percent of voting rights, given corporate governance and co-determination laws in Germany).


Figure 4.4 compares Britain, France and Germany. National wealth is equivalent to 4 times national income in Germany, compared to 5 and 6 in France and the UK.

But national savings are higher in Germany. What explains this paradox? How can a country with high-savings have a lower capital/income ratio?

It can be largely explained by two factors. First, the very low price of real estate in Germany, which is kept in check by strict rental control regulations. Second, German firms have a lower stock market valuation, which is lower because workers have a stronger claim on the ownership of German firms.

This reflects the German ‘Rhenish’ or ‘Stakeholder’ variety of capitalism, whereby firms are owned not just made up of private shareholders (the Anglo-Saxon model) but stakeholders such as trade unions, consumer associations and regional governments.

Lower stock market valuation does not imply lower social valuation, nor does it imply less economically efficient firms. Rather it reflects a politically different way to organise the market.

We will examine this in more detail during the second half of the course, when we analyze the importance of ‘different varieties of capitalism’, a debate that has become more important in the aftermath of the great recession in Europe.

The PPT slides can be found here: Lecture 7


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s