The rich get richer …..

Filename: SpecRePikettyJan15.docx
By: Frank Gue, B.Sc., MBA, P.Eng.,
2252 Joyce St.,
Burlington, ON L7R 2B5
905 634 9538
For: Letters, the Hamilton Spectator
Re: “Why one of Canada’s big banks … “ in today’s Spec


How the rich get richer and we get poorer

“Income inequality”, as in “The rich get richer and the poor get poorer”, has become an important issue in recent years. Social activists deplore the inequity in that the incomes of 1% of the population of the Western nations can be 20% of their total national incomes, while the rest of us, “the 99%”, scrabble over the remaining 80%. Small-c conservatives maintain that this is simply the operation of the natural economic laws, and that the billionaires have earned their billions honestly and ethically.

A different point of view is from Thomas Piketty, a French economist, in a new and challenging text titled simply “Economics for the 21st Century.” Piketty explains that the rich get richer because big fortunes beget bigger fortunes. The rich can afford better research into the economic drivers of the world economy than you or I can. They predict and exploit the variability of stock markets and, as the saying goes, buy low, sell high.

Let’s fit actual numbers to an actual situation. China’s CSI 300 stock market index, between 2006 and 2008, shown on P. 73 of the Dec. 13th The Economist newsmagazine, varied from 1,000 to 6,000 and back to 2,000 in only two years.

Now consider two imaginary investors, the fully informed, wealthy Ching and the uninformed, middle class, hapless Chung, each with $1,000 to invest. Ching invests in 2006 at exactly the right time and sells in 2008 at exactly the right time, ending with $6,000, i.e. a 6:1 ratio. The hapless Chung invests in 2007 at exactly the wrong time and sells in 2008 at exactly the wrong time, ending with $200.

There is now a 6,000/200 = 30-to-one wealth inequity between Ching and Chung. If they then both invest in interest bearing bonds, there will also be a 30-to-one ratio in their incomes. Inequity indeed!

Further, it is a 100% certainty that there are, somewhere in the world, a few investors who succeeded in doing exactly this.

How did Mr. Ching do it? The annual statement of any very successful mutual fund says the management fee is perhaps 1% or 2% of the funds invested. Sounds modest, doesn’t it? But when we do the arithmetic on a $2B fund, of which there are many, we find that the management fee is 20 million dollars, which will buy a great deal of expensive analytical man-hours, supercomputer time, etc. Small wonder Mr. Ching, doubtless employing such help, is so far ahead of the rest of us and is among the 1%,

Pushing the imaginary scenario a little farther, suppose Mr. Ching decides to use his $6,000 to buy new gold-embroidered bathmats for his mansion. $5,000 of this $6,000 was received without any productive work whatever by Mr. Ching. This is one of the definitions of inflation, ie too much money chasing too little goods.

Further yet, should it be ethical for Mr. Chung to be able to claim $5,000 worth of real goods in return for no production whatever, simply by pushing money around? Years ago, in his retirement speech, Mr. Bill Mulholland, president of BMO, surprisingly mused upon the ethics of “making money with money”, as he put it. This question is similar to the question put in today’s Spec headline, “Why one of Canada’s big banks is calling for greater income equality”.

Yet another facet of this conundrum is that we are entitled to ask why stock markets, with only tenuous connections to the real economic world, should be able to exert such a powerful influence on that real world. The so-called “dollars” they deal in are, as in this case, largely imaginary money; yet are indistinguishable from real dollars and can cause profound disturbances in the real world, such as big increases in unemployment.

Mr. Piketty’s proposed cure for this is a supertax reaching as high as 99% of income, using the logic that 1% of an enormous number is still a lot of money and is probably more than enough to support a billionaire’s lifestyle. This would be redistribution (which has become a dirty word in economics) on a massive scale.

This is the kind of logic that infuriates honest, dyed-in-the-wool, small-c conservative capitalist thinkers: further, there is a zero probability that any such tax could be imposed world-wide. Yet it is hard to refute such arguments. They cause us to wonder whether the ancient proscriptions forbidding Hebrews and Muslims from loaning money at interest; the recent uneasy questioning of it by Bill Mulholland; and the equally uneasy current comments from Canada’s TD Bank perhaps have a pitiless, persistent, underlying logic that will not be denied.

And so we are left with the massive inequities in the Spec headline. The socio-economic drivers of inequality are a hydra-headed monster we can see and identify but cannot seem to control. Yet identifying and understanding it is a step in the right direction. Humankind has faced and defeated similar monsters in the past; probably a generation wiser than we will find ways to defeat this one.

– end –


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