How rich are benefiting from boom in equity, bonds
MUCH of the current debate about inherited wealth in a number of Western countries is informed by the notion that most of today’s top incomes are the product of passive returns on financial capital rather than labour.
But in a new National Bureau of Economic Research working paper, four US economists stipulate much of that income actually comes from the returns on the aptitudes, or human capital, of the working rich; these returns are so great because large human capital is exceedingly rare.
In their important 2018 work, “Distributional National Accounts,” Thomas Piketty, Emmanuel Saez and Gabriel Zucman wrote that,
“in contrast to earlier decades, the increase in income concentration over the past 15 years derives from a boom in the income from equity and bonds at the top.”
This implies that the top incomes of the 20th century – those of top executives, star performers and professional athletes – grew because the richest received bigger pay for work considered unique. Now the elite grows wealthier simply by virtue of owning assets. The authors say the new state of affairs is manifestly unfair, especially since the assets can be passed by inheritance, creating an idle owner class, somewhat like the old aristocracy, that vacuums up much of societies’ cash.
In the new paper, “Capitalists in the Twenty-first Century,” Matthew Smith of the US Treasury Department’s Office of Tax Analysis, Danny Yagan of the University of California at Berkeley, Owen Zidar of Princeton Univesity and Eric Zwick of the University of Chicago take issue with the conclusions of Piketty et al.
They argue that about threequarters of the pass-through business income the biggest US earners receive is, in effect, payment for work or returns from human capital such as expertise, connections and reputation.
About 84 percent of the top
0.1 percent of earners receive some pass-through income from businesses that aren’t subject to corporate tax.
“A typical firm owned by the top 0.1 percent,” the economists write, “is a regional business with
$20 million (about R275m) in sales and 100 employees, such as an auto dealer, beverage distributor, or a large law firm.”
For the top 1 percent, who account for about 40 percent of US wealth, pass-through income typically comes from small professional services firms or medical practices.
The recipients of pass-through income are typically involved in these small and medium-sized businesses; 70 percent of people in the US who earn $1m work for a living. For tax reasons, they choose to receive compensation as pass-through income rather than wages. Moreover, 75 percent of top earners are selfmade, meaning their parents came from the bottom 99 percent.
To figure out how much of that income is the product of the earners’ human capital, Smith, Yagan, Zidar and Zwick compared the income flows from closely held firms in which working-age owners have died or retired with those of companies where the owners remained in place.
They found that after death or retirement, profits accruing to owners drop by more than three-quarters. This doesn’t mean the companies are no longer well-managed once the founders are gone: A lot of the profit now goes to professional outside managers.