Monday, April 21, 2014

Piketty, Balzac's Vautrin, and "positionally privileged" elites

Lots of reviews of Thomas Piketty's new book. Paul Krugman in his review of Capital in the 21st Century writes about Piketty's description of wealth distribution in Europe's Belle Epoque starting from third quarter of nineteenth century using a Balzac novel, 
Nineteenth-century novelists were obsessed with inheritance. Piketty discusses at length the lecture that the scoundrel Vautrin gives to Rastignac in Balzac’s Père Goriot, whose gist is that a most successful career could not possibly deliver more than a fraction of the wealth Rastignac could acquire at a stroke by marrying a rich man’s daughter. And it turns out that Vautrin was right: being in the top one percent of nineteenth-century heirs and simply living off your inherited wealth gave you around two and a half times the standard of living you could achieve by clawing your way into the top one percent of paid workers.
And Krugman has this to say about 
If Rastignac were alive today, Vautrin might concede that he could in fact do as well by becoming a hedge fund manager as he could by marrying wealth.
Interestingly, and apparently running counter to Piketty's central thesis that ownership of capital drives inequality, the massive income earnings of a certain very "positionally privileged" elite - especially those in the financial sector and those occupying the highest echelons of big business - should definitely count as a trend that breaks with the historical pattern of income patterns. These individuals enjoy a "positional" privilege - be it as part of an organizational hierarchy or as part of a sector that is now, socially and economically, the most attractive one - over their similarly or more capable peers.

There is a widespread belief, although not held by the likes of Krugman, that these extraordinary income returns are a genuine reflection of their inherent abilities. But a deeper analysis suggests that these incomes are in turn built on "first-order" birth outcomes - the ovarian lottery that you are born in a family that can afford you the best available elite up-bringing, education, and access to these "positional" opportunities at the most appropriate entry-points. In this respect, returns that arise from "first-order" birth outcomes, a biological inheritance, are itself a proxy for capital.

Update 1 (10/5/2014)

The Institutional Investor's Alpha Magazine's annual list of the 25 highest paid hedge fund managers for 2013 is out. The 25 men made a combined $21 bn, with David Tepper, founder of Appaloosa Management maintained his top position, raking in $3.5 bn to add to his $2.2 bn in 2012. Matt Yglesias points to this striking fact,
Well, it's about 0.13 percent of total national income for 2013 being earned by something like 0.00000008 percent of the American population. Another way of looking at it is that this is about 2.5 times the income of every kindergarten teacher in the country combined.
The year 2013 was the fifth consecutive year average hedge fund performance was below the stock market performance. The average return by a portfolio of 2200 funds was 9.1% compared to S&P 500's 32.4% return after accounting for dividends.

In this context, Matt Levine in Bloomberg analyzed the sources of the return for these fund managers and found that the returns of the top fund managers were amplified by the returns on their own personal investments in the fund. In fact, he finds that the major share of their returns came from the increases in their personal investments (or capital accumulated) rather than from the fees (2/20) of their actively managed fund. He writes,
If you have money, and you put it in your hedge fund, and your hedge fund has a positive return, you will make money. If you start with a ton of money, and/or your hedge fund has really good returns, you will make a lot of money. Notions of fair compensation for your labor, or appropriate pay for performance, just don't enter into it. Money begets money, lots of money begets lots of money, and skill in the begetting is a nice bonus.
He has this graphic of the dis-aggregated returns.
This reinforces Piketty's central argument that capital begets more capital, thereby widening inequality. 


gaddeswarup said...

He addresses this in the interview towards the middle

gaddeswarup said...

Robert Solow also discusses this question