Factor shares

By the time this post is up, I should have finished Capital in the 21st Century.  However, I write my posts well in advance – so this isn’t really about it.

For the next three weeks (starting Monday) I am going to have different posts up about historic “schools” of looking at factor shares, all based on the book Theories of Income Distribution.  I wrote the eight essays on the same day as I read the book (Thursday 20 March), so they are more like book notes than anything else.  As these posts come out I want you all to be highly critical of my posts – and where you can throw literature at me.  I wrote a bunch of posts in a single day based on one book (and some prior knowledge), I have no appeal to authority here and would love to have your ideas thrown in there 🙂

After that, I will have a review of Capital up, and then hopefully a document describing how to look at different income inequality/distribution indices.  That is what I will be doing while these posts are going up.

Anyway I thought I should quickly say what factor shares “are”. <!–more> A factor is a factor of production – so you can think about this in terms of capital, labour, and land at its base level.  Factors of production go into the production process to form output.  Furthermore, of that output/income factors of production will be paid – this is (to stick to the same type of distinction) through interest/profit, wages, and rent.  Factor shares is the share of income that accrues to this factor of production.

So note here that when we are talking about factor shares, we are talking about a nominal value (quantity of that factor times its price) and then we are comparing it to a nominal income (quantity of output from factor times the price of output).  This is a useful way to conceptualise things early on, when we treat a number of prices as “fixed” – but hopefully the posts will make clear that factor shares get harder to say much about (or interpret) as we start moving prices and having to talk about elasticities.

From those who are used to GDP/Value added, remember that we can have GDP in expenditure terms, production terms, or income terms.  Factors shares are essentially income GDP shares.

My impression is that Capital relies strongly on this characteristation, which is why my notes on the book are going up.

One note I will make about factor shares is that factors of production do not define themselves neatly into “individuals” or “households”.  We, and our asset holdings, are all part labour, land, and capital.  The purpose of the characterisation is to shed light on a specific way of viewing the economic process and its evolution – and factors shares are used constantly in macroeconomics and international economics (as well as income distribution) as a result.  Many of the stylized facts and/or assumptions about shares Piketty is likely to attack or agree with (from Ricardo to Marx to Kuznets to Okun) are the same facts used or disputed in macroeconomic and international economic analysis.  You don’t see the open economy dudes calling things “factor models” for nothing, and you don’t see macroeconomists describing GDP as C+I+G+X-M (capturing the accumulation of capital out of current income) for kicks 😉

Economists and inequality: Is it true we’ve been ignoring it?

In a recent interview with Piketty about his book Capital, the interviewer had some questions I found … strange:

Your book fits oddly into the canon of contemporary economics. It focuses not on growth and its determinants, but on how the spoils of growth are divided.

For much of the last century, economists told us that we didn’t have to worry about income inequality. The market economy would naturally spread riches fairly, lifting all boats.

Now Piketty does not suggest that economists haven’t been looking at the issue, his answers pretty clear and on point.  My problem is with the myth being pushed by the interviewer.

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IMF on redistribution and growth

Last month I noticed a piece from the IMF “redistribution, inequality, and growth”.  It came out after my post on “Okun’s leaky bucket” and I was pretty happy to see the piece – as it was actual empirical research stating that the policy trade-offs are more complicated than some grand “equality vs efficiency” policy choice.  As they say in their introduction:

It must be borne in mind that the data are particularly scarce and unreliable for redistribution, even more so than for inequality.  Indeed, one possible interpretation of our results is that the data on redistribution simply do not contain enough information to infer a negative (or for that matter a positive) direct effect.

We should of course be cautious about drawing definitive policy implications from cross-country regression analysis.  We know that different sorts of policies are likely to have different effects in different countries at different times.

What we find is that we should not assume that there is a big trade-off between redistribution and growth

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Trade-offs are more complicated than Okun’s leaky bucket

A popular story in macroeconomics and broad public economics is that of Okun’s leaky bucket (Okun 1975).  This essentially states that we can think of redistributing income like using a leaky bucket to move water – where the loss of income associated with the loss of efficiency is the water that falls out of the bucket on the trip.  This gives us our basic “equity-efficiency trade-off“.

Both the Spirit Level and a lot of the “new economics of income inequality” (namely the work on rent seeking) is trying to turn this on it’s head by saying that, not only does the efficiency vs equity/inequality trade-off not exist, but it is often the other way around.  When a mechanism is given, which can in turn be tested, I am fine with this (eg I am not discussing the types of studies Offsetting touches on here).

However, when it comes to directly determining policy about redistribution this use of the leaky bucket has stretched the metaphor too far.  Policy has more dimensions than a couple of synthetic aggregreates (GDP and inequality measures) which get confused for the much broader terms ‘efficiency’ and ‘equity’. Read more

Conceptual introduction to tax-benefit microsimulation

I am currently writing up a few documents on slightly more technical ideas about income inequality.  For each one I also plan to do a presentation, and attach the presentation slides to this site (along with the document).

I delivered the first one a couple of weeks ago – however, as it wasn’t one that is of public interest I only gave it to a few close economists.  It was on microsimulation models and income analysis.  It was a high level conceptual piece, really just a literature review, but it will act as a start.  The document, and the slides.

This is a form of modelling used to try to understand tax-benefit policy, and the distribution of income, given the fact that people are inherently different!  If you are interested in how I justify the modelling technique with reference to methodology (there is a bit of a discussion of the Lucas Critique in there) you may like to look at the document, but I suspect most readers would find it boring and not particularly useful – which is understandable 🙂

The next one will be on income inequality indices.  I am already part of the way through it, the goal is to write up a bit of a history, build up the idea of thinking about “social welfare” and “need” in terms of these indices, discuss some axioms that we would presume should hold for them, then discuss the individual indices in detail.  Hopefully this will be a bit more exciting.

Are we all confusing status competition and ‘inequality’: Short answer, yes

The authors of the Spirit Level have done a piece on the relationship between inequality and negative outcomes here.

Now I’ve previously strongly disagreed with the Spirit Level here.  However, I feel that I can discuss this specific post separately – I feel that it is clear and more focused than the book.  I am still unhappy with this post, however I think they have picked the clearest and most fundamental of their arguments to discuss here.

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