Short and simple refutation of Thomas Piketty

This story is currently making its rounds on Facebook:

There is a rich man and a poor man.
The rich man makes $1000 a day.
The poor man makes $10 a day.
The difference in their income is $1000 – $10 = $990 a day.

The rich man builds a factory.
Now the rich man makes $2000 a day.
He gives the poor man a job at the factory.
Now the poor man makes $100 a day.
The difference in their income is $2000 – $100 = $1900 a day.

A politician decides the “income gap” has grown too large.
He taxes the rich man $1000 a day, gives it to the poor man.
The rich man can no longer afford to run the factory.
He closes his factory. The poor man loses his job.

Everything is as it was before.
And the politician takes credit for “closing the income gap”.

George Reisman has written a slightly more elaborate and detailed criticism of Piketty. But this short story encapsulates one of the main points of his criticism. Piketty claims that when the “capital/income ratio” goes up (in this story from $990 to $1900), it means that the capitalists are making money at the expense of the wage earners. The story tells us that the exact opposite is true.

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Update November 17, 2016: For Scandinavian speaking readers, Reisman’s criticism is also available in a Swedish translation.

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Is the Customer Always King?

Also published as a Facebook note.

If you have read The Fountainhead (and I assume you have, if you are interested enough to read this blog), you may recall what Howard Roark says to the Dean in the first chapter:

I don’t intend to build in order to have clients. I intend to have clients in order to build.

An economist of the “Austrian” school, Mark Skousen, has taken issue with this, because it (allegedly) violates the principle of “consumer sovereignty”. He writes, among other things:

But the goal of all rational entrepreneurship must be to satisfy the needs of consumers, not to ignore them! Discovering and fulfilling the needs of customers is the essence of market capitalism. Imagine how far a TV manufacturer would get if he decides to build TVs that only tune into his five favorite channels, the consumer be damned. It wouldn’t be long before he would be on the road to bankruptcy.

There are so many things wrong with Skousen’s view that one hardly knows where to begin. But a good answer was provided by Stuart Hayashi in a Facebook note. (Also on Stuart’s own blog, Stu-Topia.) Stuart explains “Say’s Law of Markets”:

An actual understanding of Say’s Law of Markets recognizes that both sides of a voluntary trade are equally important to the trade, and that both sides of the trade are consumer and producer simultaneously. […] Consider the barter economy. Suppose I have a paperback book you want, and you have a flash light I want. We trade one for the other. In that bartering, who was the producer and who was the consumer? The truth is that each party was both the producer and consumer. That relationship does not change when we introduce money into trading.

And later:

Therefore, we can look at it this way. Howard Roark is not necessarily the subordinate to his client, Austen Heller. Rather, Howard Roark is a customer who is purchasing money from Austen Heller. Roark’s payment to Heller is that Roark be able to design Heller’s house in the manner that Roark prefers. If Heller considers that to be an unworthy form of payment, Heller does not have to accept it.

My own thoughts:

Is the owner of a pub serving beer in order to have customers? Or does he want customers in order to serve beer? Is a shoemaker, or a tailor, or a baker, making shoes, clothes, or bread in order to have customers, or does he want customers in order to make shoes, clothes, and bread?

This may sound like a nonsense question, for what difference does it make? Yet, it has a simple answer: the customer wants his beer etc., and the pub owner, shoemaker, tailor or baker simply wants to make a living.

So how does this differ from the Roark example? Well, Roark has something more on his mind than just making a living. He has a vision of what the world should look like – or at least what the buildings in the world should look like – and this takes precedence over making a living. True, he also has to make living – and he is willing to take a job in a quarry if he cannot survive by building.

And this is true of artists, composers, inventors – of all innovators. True, all of them need to make a living – they do sell their paintings, or symphonies, of inventions – but this is certainly not their sole motivation or even their main motivation. If they cannot sell their works – if the general public is not yet ready for them – they take a side job and wait for acceptance of their works.

But those innovators, if we are to follow Skousen’s logic, violate the principle of “consumer sovereignty”, simply because they create goods for which there is initially no demand!

Take any technological advance – from the invention of the wheel in pre-historic times to today´s computers and mobile phones: there was never any consumer demands for them before they even existed![1]

And is there today any consumer demand for vacation trips to Alpha Centauri (given that there is some inhabitable planet surrounding it)? Certainly not. Nobody has yet invented a space ship that can take us there – even less one that can travel so fast that we have a chance to arrive there within our life-time (and get back again, before the vacation is over and we have to get back on our job).

But let me take an example of actual consumer sovereignty: Last time I went to a pub in my home town, I was so badly treated by its personnel that I decided never to go back. So I exercised my consumer sovereignty by simply going to another pub. There are lots of pubs to frequent! But if pubs had been newly invented, and there were only one pub to frequent, this would not have been possible.

Consumer sovereignty is the power of the consumer to buy or abstain from buying. And, of course, this is a valid principle – within its context. The context here is that the consumer can choose between goods and services that already exist. It does not pertain to goods and services that are still to be invented.

And Howard Roark’s buildings (which were not just copies of other buildings) did not exist before he built them.


[1]) See, in this connection, Why Steve Jobs Didn’t Listen to His Customers by Gregory Ciotti. A couple of quotes:

A lot of times, people don’t know what they want until you show it to them.

How can people tell you what they want if they haven’t seen it before?

Any innovative company struggles with how much to listen to customers. Most realize that you cannot trust them to tell you what your next new product will be.

If I had asked people what they wanted, they would have said faster horses. – Henry Ford