I was recently fortunate enough to have been able to attend a lecture by French economist, Professor Thomas Piketty, at Frankfurt’s Goethe University. So celebrated is the author of ‘Capital in the 21st Century‘, the packed amphitheatre had to wait fully 30 minutes before the professor was allowed to open his mouth. First we had to endure a speech from the university’s chancellor, then the French ambassador (who had been flown in from Berlin, even though France has consular representation in Frankfurt scarcely three kilometers from where we sat). Thereafter came the obligatory word from the sponsors, and an unusually lengthy introduction from the moderator. Everyone wanted a piece of the action – a sprinkling of Piketty Dust.
Yes, interest in wealth inequality has been very big since the global financial crisis. It burst into the popular consciousness with Occupy and the movement’s bold slogan, “We Are the Ninety-Nine Percent’. Numerous studies have sought to measure the extent of inequality and its evolution over time. Most recently, a report by the bank, Credit Suisse, estimated that the world’s wealthiest one percent possessed almost half its wealth. And, of course, Piketty’s economic tome has become an unlikely bestseller (800 are a lot of pages even for a page-turner).
Awareness of wealth inequality is high, and so are the economic and social risks associated with it. Both Piketty and Credit Suisse echo the sentiments of Cornell economist Robert Frank: a world in which wealth is concentrated in the hands of the few is inherently less stable than one in which it is more evenly distributed. In his 2011 book, Frank describes how the spending patterns of the wealthy contributed to the speed and depth of the financial crisis. As their wealth is largely invested in financial assets, their behaviour is closely linked to the whims of the stock market. When the equity markets are high, the wealthy spend with abandon thereby fuelling economic activity, and they pay a lot of income and consumption tax. When bourses slump, however, their spending turns on a dime. The sudden drop in the demand for goods and services thus accelerates the downswing, and communes suffer from a dramatic loss of tax income. For this reason, Frank labelled them the high-beta rich. The less-wealthy, in contrast, tend to spend roughly the same amount irrespective of the stock market’s vagaries.
By some measures, today’s economy has an even higher beta than it did before the crisis. Yet, despite our knowledge of inequality, the spending patterns of the super-rich seem only to appeal to voyeurs, not to economic forecasters. According to Frank, future booms and busts will depend to a great extent on what the wealthy do with their money. In the context of the recent stock market sell-off, it was therefore puzzling to see US forecasters reassure themselves with the knowledge that falling gasoline prices will put more cash in the hands of consumers. Not a thought was spared for the spending patterns of the wealthy whose equity holdings suddenly shrank by ten percent. Do they think this group will spend more because gasoline is ten cents a gallon cheaper?
Perhaps it is time forecasters started looking at the behaviour of this group in isolation. Also, given that in a high-beta world economic outcomes can be as volatile as a day on the stock exchange floor, they should attach a little less certainty to their prognostications.