Capital in the Twenty-First Century

The Stages of Economic Growth

I turn now to the growth of per capita output. As noted, this was of the same order as population growth over the period 1700–2012: 0.8 percent per year on average, which equates to a multiplication of output by a factor of roughly ten over three centuries. Average global per capita income is currently around 760 euros per month; in 1700, it was less than 70 euros per month, roughly equal to income in the poorest countries of Sub-Saharan Africa in 2012.9

This comparison is suggestive, but its significance should not be exaggerated. When comparing very different societies and periods, we must avoid trying to sum everything up with a single figure, for example “the standard of living in society A is ten times higher than in society B.” When growth attains levels such as these, the notion of per capita output is far more abstract than that of population, which at least corresponds to a tangible reality (it is much easier to count people than to count goods and services). Economic development begins with the diversification of ways of life and types of goods and services produced and consumed. It is thus a multidimensional process whose very nature makes it impossible to sum up properly with a single monetary index.

Take the wealthy countries as an example. In Western Europe, North America, and Japan, average per capita income increased from barely 100 euros per month in 1700 to more than 2,500 euros per month in 2012, a more than twentyfold increase.10 The increase in productivity, or output per hour worked, was even greater, because each person’s average working time decreased dramatically: as the developed countries grew wealthier, they decided to work less in order to allow for more free time (the work day grew shorter, vacations grew longer, and so on).11

Much of this spectacular growth occurred in the twentieth century. Globally, the average growth of per capita output of 0.8 percent over the period 1700–2012 breaks down as follows: growth of barely 0.1 percent in the eighteenth century, 0.9 percent in the nineteenth century, and 1.6 percent in the twentieth century (see Table 2.1). In Western Europe, average growth of 1.0 percent in the same period breaks down as 0.2 percent in the eighteenth century, 1.1 percent in the nineteenth century, and 1.9 percent in the twentieth century.12 Average purchasing power in Europe barely increased at all from 1700 to 1820, then more than doubled between 1820 and 1913, and increased more than sixfold between 1913 and 2012. Basically, the eighteenth century suffered from the same economic stagnation as previous centuries. The nineteenth century witnessed the first sustained growth in per capita output, although large segments of the population derived little benefit from this, at least until the last three decades of the century. It was not until the twentieth century that economic growth became a tangible, unmistakable reality for everyone. Around the turn of the twentieth century, average per capita income in Europe stood at just under 400 euros per month, compared with 2,500 euros in 2010.

But what does it mean for purchasing power to be multiplied by a factor of twenty, ten, or even six? It clearly does not mean that Europeans in 2012 produced and consumed six times more goods and services than they produced and consumed in 1913. For example, average food consumption obviously did not increase sixfold. Basic dietary needs would long since have been satisfied if consumption had increased that much. Not only in Europe but everywhere, improvements in purchasing power and standard of living over the long run depend primarily on a transformation of the structure of consumption: a consumer basket initially filled mainly with foodstuffs gradually gave way to a much more diversified basket of goods, rich in manufactured products and services.

Furthermore, even if Europeans in 2012 wished to consume six times the amount of goods and services they consumed in 1913, they could not: some prices have risen more rapidly than the “average” price, while others have risen more slowly, so that purchasing power has not increased sixfold for all types of goods and services. In the short run, the problem of “relative prices” can be neglected, and it is reasonable to assume that the indices of “average” prices published by government agencies allow us to correctly gauge changes in purchasing power. In the long run, however, relative prices shift dramatically, as does the composition of the typical consumer’s basket of goods, owing largely to the advent of new goods and services, so that average price indices fail to give an accurate picture of the changes that have taken place, no matter how sophisticated the techniques used by the statisticians to process the many thousands of prices they monitor and to correct for improvements in product quality.

What Does a Tenfold Increase in Purchasing Power Mean?

In fact, the only way to accurately gauge the spectacular increase in standards of living since the Industrial Revolution is to look at income levels in today’s currency and compare these to price levels for the various goods and services available in different periods. For now, I will simply summarize the main lessons derived from such an exercise.13

It is standard to distinguish the following three types of goods and services. For industrial goods, productivity growth has been more rapid than for the economy as a whole, so that prices in this sector have fallen relative to the average of all prices. Foodstuffs is a sector in which productivity has increased continuously and crucially over the very long run (thereby allowing a greatly increased population to be fed by ever fewer hands, liberating a growing portion of the workforce for other tasks), even though the increase in productivity has been less rapid in the agricultural sector than in the industrial sector, so that food prices have evolved at roughly the same rate as the average of all prices. Finally, productivity growth in the service sector has generally been low (or even zero in some cases, which explains why this sector has tended to employ a steadily increasing share of the workforce), so that the price of services has increased more rapidly than the average of all prices.

This general pattern is well known. Although it is broadly speaking correct, it needs to be refined and made more precise. In fact, there is a great deal of diversity within each of these three sectors. The prices of many food items did in fact evolve at the same rate as the average of all prices. For example, in France, the price of a kilogram of carrots evolved at the same rate as the overall price index in the period 1900–2010, so that purchasing power expressed in terms of carrots evolved in the same way as average purchasing power (which increased approximately sixfold). An average worker could afford slightly less than ten kilos of carrots per day at the turn of the twentieth century, while he could afford nearly sixty kilos per day at the turn of the twenty-first century.14 For other foodstuffs, however, such as milk, butter, eggs, and dairy products in general, major technological advances in processing, manufacturing, conservation, and so on led to relative price decreases and thus to increases in purchasing power greater than sixfold. The same is true for products that benefited from the significant reduction in transport costs over the course of the twentieth century: for example, French purchasing power expressed in terms of oranges increased tenfold, and expressed in terms of bananas, twentyfold. Conversely, purchasing power measured in kilos of bread or meat rose less than fourfold, although there was a sharp increase in the quality and variety of products on offer.

Manufactured goods present an even more mixed picture, primarily because of the introduction of radically new goods and spectacular improvements in performance. The example often cited in recent years is that of electronics and computer technology. Advances in computers and cell phones in the 1990s and of tablets and smartphones in the 2000s and beyond have led to tenfold increases in purchasing power in a very short period of time: prices have fallen by half, while performance has increased by a factor of 5.

It is important to note that equally impressive examples can be found throughout the long history of industrial development. Take the bicycle. In France in the 1880s, the cheapest model listed in catalogs and sales brochures cost the equivalent of six months of the average worker’s wage. And this was a relatively rudimentary bicycle, “which had wheels covered with just a strip of solid rubber and only one brake that pressed directly against the front rim.” Technological progress made it possible to reduce the price to one month’s wages by 1910. Progress continued, and by the 1960s one could buy a quality bicycle (with “detachable wheel, two brakes, chain and mud guards, saddle bags, lights, and reflector”) for less than a week’s average wage. All in all, and leaving aside the prodigious improvement in the quality and safety of the product, purchasing power in terms of bicycles rose by a factor of 40 between 1890 and 1970.15

One could easily multiply examples by comparing the price history of electric light bulbs, household appliances, table settings, clothing, and automobiles to prevailing wages in both developed and emerging economies.

All of these examples show how futile and reductive it is to try to sum up all these change with a single index, as in “the standard of living increased tenfold between date A and date B.” When family budgets and lifestyles change so radically and purchasing power varies so much from one good to another, it makes little sense to take averages, because the result depends heavily on the weights and measures of quality one chooses, and these are fairly uncertain, especially when one is attempting comparisons across several centuries.

None of this in any way challenges the reality of growth. Quite the contrary: the material conditions of life have clearly improved dramatically since the Industrial Revolution, allowing people around the world to eat better, dress better, travel, learn, obtain medical care, and so on. It remains interesting to measure growth rates over shorter periods such as a generation or two. Over a period of thirty to sixty years, there are significant differences between a growth rate of 0.1 percent per year (3 percent per generation), 1 percent per year (35 percent per generation), or 3 percent per year (143 percent per generation). It is only when growth statistics are compiled over very long periods leading to multiplications by huge factors that the numbers lose a part of their significance and become relatively abstract and arbitrary quantities.

Growth: A Diversification of Lifestyles

To conclude this discussion, consider the case of services, where diversity is probably the most extreme. In theory, things are fairly clear: productivity growth in the service sector has been less rapid, so that purchasing power expressed in terms of services has increased much less. As a typical case—a “pure” service benefiting from no major technological innovation over the centuries—one often takes the example of barbers: a haircut takes just as long now as it did a century ago, so that the price of a haircut has increased by the same factor as the barber’s pay, which has itself progressed at the same rate as the average wage and average income (to a first approximation). In other words, an hour’s work of the typical wage-earner in the twenty-first century can buy just as many haircuts as an hour’s work a hundred years ago, so that purchasing power expressed in terms of haircuts has not increased (and may in fact have decreased slightly).16

In fact, the diversity of services is so extreme that the very notion of a service sector makes little sense. The decomposition of the economy into three sectors—primary, secondary, and tertiary—was an idea of the mid-twentieth century in societies where each sector included similar, or at any rate comparable, fractions of economic activity and the workforce (see Table 2.4). But once 70–80 percent of the workforce in the developed countries found itself working in the service sector, the category ceased to have the same meaning: it provided little information about the nature of the trades and services produced in a given society.

In order to find our way through this vast aggregate of activities, whose growth accounts for much of the improvement in living conditions since the nineteenth century, it will be useful to distinguish several subsectors. Consider first services in health and education, which by themselves account for more than 20 percent of total employment in the most advanced countries (or as much as all industrial sectors combined). There is every reason to think that this fraction will continue to increase, given the pace of medical progress and the steady growth of higher education. The number of jobs in retail; hotels, cafés, and restaurants; and culture and leisure activities also increased rapidly, typically accounting for 20 percent of total employment. Services to firms (consulting, accounting, design, data processing, etc.) combined with real estate and financial services (real estate agencies, banks, insurance, etc.) and transportation add another 20 percent of the job total. If you then add government and security services (general administration, courts, police, armed forces, etc.), which account for nearly 10 percent of total employment in most countries, you reach the 70–80 percent figure given in official statistics.17

Note that an important part of these services, especially in health and education, is generally financed by taxes and provided free of charge. The details of financing vary from country to country, as does the exact share financed by taxes, which is higher in Europe, for example, than in the United States or Japan. Still, it is quite high in all developed countries: broadly speaking, at least half of the total cost of health and education services is paid for by taxes, and in a number of European countries it is more than three-quarters. This raises potential new difficulties and uncertainties when it comes to measuring and comparing increases in the standard of living in different countries over the long run. This is not a minor point: not only do these two sectors account for more than 20 percent of GDP and employment in the most advanced countries—a percentage that will no doubt increase in the future—but health and education probably account for the most tangible and impressive improvement in standards of living over the past two centuries. Instead of living in societies where the life expectancy was barely forty years and nearly everyone was illiterate, we now live in societies where it is common to reach the age of eighty and everyone has at least minimal access to culture.

In national accounts, the value of public services available to the public for free is always estimated on the basis of the production costs assumed by the government, that is, ultimately, by taxpayers. These costs include the wages paid to health workers and teachers employed by hospitals, schools, and public universities. This method of valuing services has its flaws, but it is logically consistent and clearly more satisfactory than simply excluding free public services from GDP calculations and concentrating solely on commodity production. It would be economically absurd to leave public services out entirely, because doing so would lead in a totally artificial way to an underestimate of the GDP and national income of a country that chose a public system of health and education rather than a private system, even if the available services were strictly identical.

The method used to compute national accounts has the virtue of correcting this bias. Still, it is not perfect. In particular, there is no objective measure of the quality of services rendered (although various correctives for this are under consideration). For example, if a private health insurance system costs more than a public system but does not yield truly superior quality (as a comparison of the United States with Europe suggests), then GDP will be artificially overvalued in countries that rely mainly on private insurance. Note, too, that the convention in national accounting is not to count any remuneration for public capital such as hospital buildings and equipment or schools and universities.18 The consequence of this is that a country that privatized its health and education services would see its GDP rise artificially, even if the services produced and the wages paid to employees remained exactly the same.19 It may be that this method of accounting by costs underestimates the fundamental “value” of education and health and therefore the growth achieved during periods of rapid expansion of services in these areas.20

Hence there is no doubt that economic growth led to a significant improvement in standard of living over the long run. The best available estimates suggest that global per capita income increased by a factor of more than 10 between 1700 and 2012 (from 70 euros to 760 euros per month) and by a factor of more than 20 in the wealthiest countries (from 100 to 2,500 euros per month). Given the difficulties of measuring such radical transformations, especially if we try to sum them up with a single index, we must be careful not to make a fetish of the numbers, which should rather be taken as indications of orders of magnitude and nothing more.

The End of Growth?

Now to consider the future. Will the spectacular increase in per capita output I have just described inexorably slow in the twenty-first century? Are we headed toward the end of growth for technological or ecological reasons, or perhaps both at once?

Before trying to answer this question, it is important to recall that past growth, as spectacular as it was, almost always occurred at relatively slow annual rates, generally no more than 1–1.5 percent per year. The only historical examples of noticeably more rapid growth—3–4 percent or more—occurred in countries that were experiencing accelerated catch-up with other countries. This is a process that by definition ends when catch-up is achieved and therefore can only be transitional and time limited. Clearly, moreover, such a catch-up process cannot take place globally.

At the global level, the average rate of growth of per capita output was 0.8 percent per year from 1700 to 2012, or 0.1 percent in the period 1700–1820, 0.9 percent in 1820–1913, and 1.6 percent in 1913–2012. As indicated in Table 2.1, we find the same average growth rate—0.8 percent—when we look at world population 1700–2012.

Table 2.5 shows the economic growth rates for each century and each continent separately. In Europe, per capita output grew at a rate of 1.0 percent 1820–1913 and 1.9 percent 1913–2012. In America, growth reached 1.5 percent 1820–1913 and 1.5 percent again 1913–2012.

The details are unimportant. The key point is that there is no historical example of a country at the world technological frontier whose growth in per capita output exceeded 1.5 percent over a lengthy period of time. If we look at the last few decades, we find even lower growth rates in the wealthiest countries: between 1990 and 2012, per capita output grew at a rate of 1.6 percent in Western Europe, 1.4 percent in North America, and 0.7 percent in Japan.21 It is important to bear this reality in mind as I proceed, because many people think that growth ought to be at least 3 or 4 percent per year. As noted, both history and logic show this to be illusory.

With these preliminaries out of the way, what can we say about future growth rates? Some economists, such as Robert Gordon, believe that the rate of growth of per capita output is destined to slow in the most advanced countries, starting with the United States, and may sink below 0.5 percent per year between 2050 and 2100.22 Gordon’s analysis is based on a comparison of the various waves of innovation that have succeeded one another since the invention of the steam engine and introduction of electricity, and on the finding that the most recent waves—including the revolution in information technology—have a much lower growth potential than earlier waves, because they are less disruptive to modes of production and do less to improve productivity across the economy.

Just as I refrained earlier from predicting demographic growth, I will not attempt now to predict economic growth in the twenty-first century. Rather, I will attempt to draw the consequences of various possible scenarios for the dynamics of the wealth distribution. To my mind, it is as difficult to predict the pace of future innovations as to predict future fertility. The history of the past two centuries makes it highly unlikely that per capita output in the advanced countries will grow at a rate above 1.5 percent per year, but I am unable to predict whether the actual rate will be 0.5 percent, 1 percent, or 1.5 percent. The median scenario I will present here is based on a long-term per capita output growth rate of 1.2 percent in the wealthy countries, which is relatively optimistic compared with Robert Gordon’s predictions (which I think are a little too dark). This level of growth cannot be achieved, however, unless new sources of energy are developed to replace hydrocarbons, which are rapidly being depleted.23 This is only one scenario among many.

An Annual Growth of 1 Percent Implies Major Social Change

In my view, the most important point—more important than the specific growth rate prediction (since, as I have shown, any attempt to reduce long-term growth to a single figure is largely illusory)—is that a per capita output growth rate on the order of 1 percent is in fact extremely rapid, much more rapid than many people think.

The right way to look at the problem is once again in generational terms. Over a period of thirty years, a growth rate of 1 percent per year corresponds to cumulative growth of more than 35 percent. A growth rate of 1.5 percent per year corresponds to cumulative growth of more than 50 percent. In practice, this implies major changes in lifestyle and employment. Concretely, per capita output growth in Europe, North America, and Japan over the past thirty years has ranged between 1 and 1.5 percent, and people’s lives have been subjected to major changes. In 1980 there was no Internet or cell phone network, most people did not travel by air, most of the advanced medical technologies in common use today did not yet exist, and only a minority attended college. In the areas of communication, transportation, health, and education, the changes have been profound. These changes have also had a powerful impact on the structure of employment: when output per head increases by 35 to 50 percent in thirty years, that means that a very large fraction—between a quarter and a third—of what is produced today, and therefore between a quarter and a third of occupations and jobs, did not exist thirty years ago.

What this means is that today’s societies are very different from the societies of the past, when growth was close to zero, or barely 0.1 percent per year, as in the eighteenth century. A society in which growth is 0.1–0.2 percent per year reproduces itself with little or no change from one generation to the next: the occupational structure is the same, as is the property structure. A society that grows at 1 percent per year, as the most advanced societies have done since the turn of the nineteenth century, is a society that undergoes deep and permanent change. This has important consequences for the structure of social inequalities and the dynamics of the wealth distribution. Growth can create new forms of inequality: for example, fortunes can be amassed very quickly in new sectors of economic activity. At the same time, however, growth makes inequalities of wealth inherited from the past less apparent, so that inherited wealth becomes less decisive. To be sure, the transformations entailed by a growth rate of 1 percent are far less sweeping than those required by a rate of 3–4 percent, so that the risk of disillusionment is considerable—a reflection of the hope invested in a more just social order, especially since the Enlightenment. Economic growth is quite simply incapable of satisfying this democratic and meritocratic hope, which must create specific institutions for the purpose and not rely solely on market forces or technological progress.

The Posterity of the Postwar Period: Entangled Transatlantic Destinies

Continental Europe and especially France have entertained considerable nostalgia for what the French call the Trente Glorieuses, the thirty years from the late 1940s to the late 1970s during which economic growth was unusually rapid. People still do not understand what evil spirit condemned them to such a low rate of growth beginning in the late 1970s. Even today, many people believe that the last thirty (soon to be thirty-five or forty) “pitiful years” will soon come to an end, like a bad dream, and things will once again be as they were before.

In fact, when viewed in historical perspective, the thirty postwar years were the exceptional period, quite simply because Europe had fallen far behind the United States over the period 1914–1945 but rapidly caught up during the Trente Glorieuses. Once this catch-up was complete, Europe and the United States both stood at the global technological frontier and began to grow at the same relatively slow pace, characteristic of economics at the frontier.

FIGURE 2.3. The growth rate of per capita output since the Industrial Revolution

The growth rate of per capita output surpassed 4 percent per year in Europe between 1950 and 1970, before returning to American levels.

Sources and series: see piketty.pse.ens.fr/capital21c.

A glance at Figure 2.3, which shows the comparative evolution of European and North American growth rates, will make this point clear. In North America, there is no nostalgia for the postwar period, quite simply because the Trente Glorieuses never existed there: per capita output grew at roughly the same rate of 1.5–2 percent per year throughout the period 1820–2012. To be sure, growth slowed a bit between 1930 and 1950 to just over 1.5 percent, then increased again to just over 2 percent between 1950 and 1970, and then slowed to less than 1.5 percent between 1990 and 2012. In Western Europe, which suffered much more from the two world wars, the variations are considerably greater: per capita output stagnated between 1913 and 1950 (with a growth rate of just over 0.5 percent) and then leapt ahead to more than 4 percent from 1950 to 1970, before falling sharply to just slightly above US levels (a little more than 2 percent) in the period 1970–1990 and to barely 1.5 percent between 1990 and 2012.

Western Europe experienced a golden age of growth between 1950 and 1970, only to see its growth rate diminish to one-half or even one-third of its peak level during the decades that followed. Note that Figure 2.3 underestimates the depth of the fall, because I included Britain in Western Europe (as it should be), even though British growth in the twentieth century adhered fairly closely to the North American pattern of quasi stability. If we looked only at continental Europe, we would find an average per capita output growth rate of 5 percent between 1950 and 1970—a level well beyond that achieved in other advanced countries over the past two centuries.

These very different collective experiences of growth in the twentieth century largely explain why public opinion in different countries varies so widely in regard to commercial and financial globalization and indeed to capitalism in general. In continental Europe and especially France, people quite naturally continue to look on the first three postwar decades—a period of strong state intervention in the economy—as a period blessed with rapid growth, and many regard the liberalization of the economy that began around 1980 as the cause of a slowdown.

In Great Britain and the United States, postwar history is interpreted quite differently. Between 1950 and 1980, the gap between the English-speaking countries and the countries that had lost the war closed rapidly. By the late 1970s, US magazine covers often denounced the decline of the United States and the success of German and Japanese industry. In Britain, GDP per capita fell below the level of Germany, France, Japan, and even Italy. It may even be the case that this sense of being rivaled (or even overtaken in the case of Britain) played an important part in the “conservative revolution.” Margaret Thatcher in Britain and Ronald Reagan in the United States promised to “roll back the welfare state” that had allegedly sapped the animal spirits of Anglo-Saxon entrepreneurs and thus to return to pure nineteenth-century capitalism, which would allow the United States and Britain to regain the upper hand. Even today, many people in both countries believe that the conservative revolution was remarkably successful, because their growth rates once again matched continental European and Japanese levels.

In fact, neither the economic liberalization that began around 1980 nor the state interventionism that began in 1945 deserves such praise or blame. France, Germany, and Japan would very likely have caught up with Britain and the United States following their collapse of 1914–1945 regardless of what policies they had adopted (I say this with only slight exaggeration). The most one can say is that state intervention did no harm. Similarly, once these countries had attained the global technological frontier, it is hardly surprising that they ceased to grow more rapidly than Britain and the United States or that growth rates in all of these wealthy countries more or less equalized, as Figure 2.3 shows (I will come back to this). Broadly speaking, the US and British policies of economic liberalization appear to have had little effect on this simple reality, since they neither increased growth nor decreased it.

The Double Bell Curve of Global Growth

To recapitulate, global growth over the past three centuries can be pictured as a bell curve with a very high peak. In regard to both population growth and per capita output growth, the pace gradually accelerated over the course of the eighteenth and nineteenth centuries, and especially the twentieth, and is now most likely returning to much lower levels for the remainder of the twenty-first century.

There are, however, fairly clear differences between the two bell curves. If we look at the curve for population growth, we see that the rise began much earlier, in the eighteenth century, and the decrease also began much earlier. Here we see the effects of the demographic transition, which has already largely been completed. The rate of global population growth peaked in the period 1950–1970 at nearly 2 percent per year and since then has decreased steadily. Although one can never be sure of anything in this realm, it is likely that this process will continue and that global demographic growth rates will decline to near zero in the second half of the twenty-first century. The shape of the bell curve is quite well defined (see Figure 2.2).

When it comes to the growth rate of per capita output, things are more complicated. It took longer for “economic” growth to take off: it remained close to zero throughout the eighteenth century, began to climb only in the nineteenth, and did not really become a shared reality until the twentieth. Global growth in per capita output exceeded 2 percent between 1950 and 1990, notably thanks to European catch-up, and again between 1990 and 2012, thanks to Asian and especially Chinese catch-up, with growth in China exceeding 9 percent per year in that period, according to official statistics (a level never before observed).24

FIGURE 2.4. The growth rate of world per capita output from Antiquity to 2100

The growth rate of per capita output surpassed 2 percent from 1950 to 2012. If the convergence process goes on, it will surpass 2.5 percent from 2012 to 2050, and then will drop below 1.5 percent.

Sources and series: see piketty.pse.ens.fr/capital21c.

What will happen after 2012? In Figure 2.4 I have indicated a “median” growth prediction. In fact, this is a rather optimistic forecast, since I have assumed that the richest countries (Western Europe, North America, and Japan) will grow at a rate of 1.2 percent from 2012 to 2100 (markedly higher than many other economists predict), while poor and emerging countries will continue the convergence process without stumbling, attaining growth of 5 percent per year from 2012 to 2030 and 4 percent from 2030 to 2050. If this were to occur as predicted, per capita output in China, Eastern Europe, South America, North Africa, and the Middle East would match that of the wealthiest countries by 2050.25 After that, the distribution of global output described in Chapter 1 would approximate the distribution of the population.26

In this optimistic median scenario, global growth of per capita output would slightly exceed 2.5 percent per year between 2012 and 2030 and again between 2030 and 2050, before falling below 1.5 percent initially and then declining to around 1.2 percent in the final third of the century. By comparison with the bell curve followed by the rate of demographic growth (Figure 2.2), this second bell curve has two special features. First, it peaks much later than the first one (almost a century later, in the middle of the twenty-first century rather than the twentieth), and second, it does not decrease to zero or near-zero growth but rather to a level just above 1 percent per year, which is much higher than the growth rate of traditional societies (see Figure 2.4).

FIGURE 2.5. The growth rate of world output from Antiquity to 2100

The growth rate of world output surpassed 4 percent from 1950 to 1990. If the convergence process goes on, it will drop below 2 percent by 2050.

Sources and series: see piketty.pse.ens.fr/capital21c.

By adding these two curves, we can obtain a third curve showing the rate of growth of total global output (Figure 2.5). Until 1950, this had always been less than 2 percent per year, before leaping to 4 percent in the period 1950–1990, an exceptionally high level that reflected both the highest demographic growth rate in history and the highest growth rate in output per head. The rate of growth of global output then began to fall, dropping below 3.5 percent in the period 1990–2012, despite extremely high growth rates in emerging countries, most notably China. According to my median scenario, this rate will continue through 2030 before dropping to 3 percent in 2030–2050 and then to roughly 1.5 percent during the second half of the twenty-first century.

I have already conceded that these “median” forecasts are highly hypothetical. The key point is that regardless of the exact dates and growth rates (details that are obviously important), the two bell curves of global growth are in large part already determined. The median forecast shown on Figures 2.2–5 is optimistic in two respects: first, because it assumes that productivity growth in the wealthy countries will continue at a rate of more than 1 percent per year (which assumes significant technological progress, especially in the area of clean energy), and second, perhaps more important, because it assumes that emerging economies will continue to converge with the rich economies, without major political or military impediments, until the process is complete, around 2050, which is very rapid. It is easy to imagine less optimistic scenarios, in which case the bell curve of global growth could fall faster to levels lower than those indicated on these graphs.

The Question of Inflation

The foregoing overview of growth since the Industrial Revolution would be woefully incomplete if I did not discuss the question of inflation. Some would say that inflation is a purely monetary phenomenon with which we do not need to concern ourselves. In fact, all the growth rates I have discussed thus far are so-called real growth rates, which are obtained by subtracting the rate of inflation (derived from the consumer price index) from the so-called nominal growth rate (measured in terms of consumer prices).

In reality, inflation plays a key role in this investigation. As noted, the use of a price index based on “averages” poses a problem, because growth always bring forth new goods and services and leads to enormous shifts in relative prices, which are difficult to summarize in a single index. As a result, the concepts of inflation and growth are not always very well defined. The decomposition of nominal growth (the only kind that can be observed with the naked eye, as it were) into a real component and an inflation component is in part arbitrary and has been the source of numerous controversies.

For example, if the nominal growth rate is 3 percent per year and prices increase by 2 percent, then we say that the real growth rate is 1 percent. But if we revise the inflation estimate downward because, for example, we believe that the real price of smartphones and tablets has decreased much more than we thought previously (given the considerable increase in their quality and performance, which statisticians try to measure carefully—no mean feat), so that we now think that prices rose by only 1.5 percent, then we conclude that the real growth rate is 1.5 percent. In fact, when differences are this small, it is difficult to be certain about the correct figure, and each estimate captures part of the truth: growth was no doubt closer to 1.5 percent for aficionados of smartphones and tablets and closer to 1 percent for others.

Relative price movements can play an even more decisive role in Ricardo’s theory based on the principle of scarcity: if certain prices, such as those for land, buildings, or gasoline, rise to very high levels for a prolonged period of time, this can permanently alter the distribution of wealth in favor of those who happen to be the initial owners of those scarce resources.

In addition to the question of relative prices, I will show that inflation per se—that is, a generalized increase of all prices—can also play a fundamental role in the dynamics of the wealth distribution. Indeed, it was essentially inflation that allowed the wealthy countries to get rid of the public debt they owed at the end of World War II. Inflation also led to various redistributions among social groups over the course of the twentieth century, often in a chaotic, uncontrolled manner. Conversely, the wealth-based society that flourished in the eighteenth and nineteenth centuries was inextricably linked to the very stable monetary conditions that persisted over this very long period.

The Great Monetary Stability of the Eighteenth and Nineteenth Centuries

To back up a bit: the first crucial fact to bear in mind is that inflation is largely a twentieth-century phenomenon. Before that, up to World War I, inflation was zero or close to it. Prices sometimes rose or fell sharply for a period of several years or even decades, but these price movements generally balanced out in the end. This was the case in all countries for which we possess long-run price series.

More precisely, if we look at average price increases over the periods 1700–1820 and 1820–1913, we find that inflation was insignificant in France, Britain, the United States, and Germany: at most 0.2–0.3 percent per year. We even find periods of slightly negative price movements: for example, Britain and the United States in the nineteenth century (−0.2 percent per year if we average the two cases between 1820 and 1913).

To be sure, there were a few exceptions to the general rule of monetary stability, but each of them was short-lived, and the return to normal came quickly, as though it were inevitable. One particularly emblematic case was that of the French Revolution. Late in 1789, the revolutionary government issued its famous assignats, which became a true circulating currency and medium of exchange by 1790 or 1791. It was one of the first historical examples of paper money. This gave rise to high inflation (measured in assignats) until 1794 or 1795. The important point, however, is that the return to metal coinage, after creation of the franc germinal, took place at the same parity as the currency of the Ancien Régime. The law of 18 germinal, Year III (April 7, 1795), did away with the old livre tournois (which reminded people too much of the monarchy) and replaced it with the franc, which became the country’s new official monetary unit. It had the same metal content as its predecessor. A 1-franc coin was supposed to contain exactly 4.5 grams of fine silver (as the livre tournois had done since 1726). This was confirmed by the law of 1796 and again by the law of 1803, which permanently established bimetallism in France (based on gold and silver).27

Ultimately, prices measured in francs in the period 1800–1810 were roughly the same as prices expressed in livres tournois in the period 1770–1780, so that the change of monetary unit during the Revolution did not alter the purchasing power of money in any way. The novelists of the early nineteenth century, starting with Balzac, moved constantly from one unit to another when characterizing income and wealth: for contemporary readers, the franc germinal (or “franc-or”) and livre tournois were one and the same. For Père Goriot, “a thousand two hundred livres” of rent was perfectly equivalent to “twelve hundred francs,” and no further specification was needed.

The gold value of the franc set in 1803 was not officially changed until June 25, 1928, when a new monetary law was adopted. In fact, the Banque de France had been relieved of the obligation to exchange its notes for gold or silver since August 1914, so that the “franc-or” had already become a “paper franc” and remained such until the monetary stabilization of 1926–1928. Nevertheless, the same parity with metal remained in effect from 1726 to 1914—a not insignificant period of time.

We find the same degree of monetary stability in the British pound sterling. Despite slight adjustments, the conversion rate between French and British currencies remained quite stable for two centuries: the pound sterling continued to be worth 20–25 livres tournois or francs germinal from the eighteenth century until 1914.28 For British novelists of the time, the pound sterling and its strange offspring, such as shillings and guineas, seemed as solid as marble, just as the livre tournois and franc-or did to French novelists.29 Each of these units seemed to measure quantities that did not vary with time, thus laying down markers that bestowed an aura of eternity on monetary magnitudes and a kind of permanence to social distinctions.

The same was true in other countries: the only major changes concerned the definition of new units of currency or the creation of new currencies, such as the US dollar in 1775 and the gold mark in 1873. But once the parities with metal were set, nothing changed: in the nineteenth and early twentieth centuries, everyone knew that a pound sterling was worth about 5 dollars, 20 marks, and 25 francs. The value of money had not changed for decades, and no one saw any reason to think it would be different in the future.

The Meaning of Money in Literary Classics

In eighteenth- and nineteenth-century novels, money was everywhere, not only as an abstract force but above all as a palpable, concrete magnitude. Writers frequently described the income and wealth of their characters in francs or pounds, not to overwhelm us with numbers but because these quantities established a character’s social status in the mind of the reader. Everyone knew what standard of living these numbers represented.

These monetary markers were stable, moreover, because growth was relatively slow, so that the amounts in question changed only very gradually, over many decades. In the eighteenth century, per capita income grew very slowly. In Great Britain, the average income was on the order of 30 pounds a year in the early 1800s, when Jane Austen wrote her novels.30 The same average income could have been observed in 1720 or 1770. Hence these were very stable reference points, with which Austen had grown up. She knew that to live comfortably and elegantly, secure proper transportation and clothing, eat well, and find amusement and a necessary minimum of domestic servants, one needed—by her lights—at least twenty to thirty times that much. The characters in her novels consider themselves free from need only if they dispose of incomes of 500 to 1,000 pounds a year.

I will have a lot more to say about the structure of inequality and standards of living that underlies these realities and perceptions, and in particular about the distribution of wealth and income that flowed from them. At this stage, the important point is that absent inflation and in view of very low growth, these sums reflect very concrete and stable realities. Indeed, a half century later, in the 1850s, the average income was barely 40–50 pounds a year. Readers probably found the amounts mentioned by Jane Austen somewhat too small to live comfortably but were not totally confused by them. By the turn of the twentieth century, the average income in Great Britain had risen to 80–90 pounds a year. The increase was noticeable, but annual incomes of 1,000 pounds or more—the kind that Austen talked about—still marked a significant divide.

We find the same stability of monetary references in the French novel. In France, the average income was roughly 400–500 francs per year in the period 1810–1820, in which Balzac set Père Goriot. Expressed in livres tournois, the average income was just slightly lower in the Ancien Régime. Balzac, like Austen, described a world in which it took twenty to thirty times that much to live decently: with an income of less than 10–20,000 francs, a Balzacian hero would feel that he lived in misery. Again, these orders of magnitude would change only very gradually over the course of the nineteenth century and into the Belle Époque: they would long seem familiar to readers.31 These amounts allowed the writer to economically set the scene, hint at a way of life, evoke rivalries, and, in a word, describe a civilization.

One could easily multiply examples by drawing on American, German, and Italian novels, as well as on the literature of all the other countries that experienced this long period of monetary stability. Until World War I, money had meaning, and novelists did not fail to exploit it, explore it, and turn it into a literary subject.

The Loss of Monetary Bearings in the Twentieth Century

This world collapsed for good with World War I. To pay for this war of extraordinary violence and intensity, to pay for soldiers and for the ever more costly and sophisticated weapons they used, governments went deeply into debt. As early as August 1914, the principal belligerents ended the convertibility of their currency into gold. After the war, all countries resorted to one degree or another to the printing press to deal with their enormous public debts. Attempts to reintroduce the gold standard in the 1920s did not survive the crisis of the 1930s: Britain abandoned the gold standard in 1931, the United States in 1933, France in 1936. The post–World War II gold standard would prove to be barely more robust: established in 1946, it ended in 1971 when the dollar ceased to be convertible into gold.

Between 1913 and 1950, inflation in France exceeded 13 percent per year (so that prices rose by a factor of 100), and inflation in Germany was 17 percent per year (so that prices rose by a factor of more than 300). In Britain and the United States, which suffered less damage and less political destabilization from the two wars, the rate of inflation was significantly lower: barely 3 percent per year in the period 1913–1950. Yet this still means that prices were multiplied by three, following two centuries in which prices had barely moved at all.

In all countries the shocks of the period 1914–1945 disrupted the monetary certitudes of the prewar world, not least because the inflationary process unleashed by war has never really ended.

We see this very clearly in Figure 2.6, which shows the evolution of inflation by subperiod for four countries in the period 1700–2012. Note that inflation ranged between 2 and 6 percent per year on average from 1950 to 1970, before rising sharply in the 1970s to the point where average inflation reached 10 percent in Britain and 8 percent in France in the period 1970–1990, despite the beginnings of significant disinflation nearly everywhere after 1980. If we compare this behavior of inflation with that of the previous decades, it is tempting to think that the period 1990–2012, with average inflation of around 2 percent in the four countries (a little less in Germany and France, a little more in Britain and the United States), signified a return to the zero inflation of the pre–World War I years.

To make this inference, however, one would have to forget that inflation of 2 percent per year is quite different from zero inflation. If we add annual inflation of 2 percent to real growth of 1–2 percent, then all of our key amounts—output, income, wages—must be increasing 3–4 percent a year, so that after ten or twenty years, the sums we are dealing with will bear no relation to present quantities. Who remembers the prevailing wages of the late 1980s or early 1990s? Furthermore, it is perfectly possible that this inflation of 2 percent per year will rise somewhat in the coming years, in view of the changes in monetary policy that have taken place since 2007–2008, especially in Britain and the United States. The monetary regime today differs significantly from the monetary regime in force a century ago. It is also interesting to note that Germany and France, the two countries that resorted most to inflation in the twentieth century, and more specifically between 1913 and 1950, today seem to be the most hesitant when it comes to using inflationary policy. What is more, they built a monetary zone, the Eurozone, that is based almost entirely on the principle of combating inflation.

FIGURE 2.6. Inflation since the Industrial Revolution

Inflation in the rich countries was zero in the eighteenth and nineteenth centuries, high in the twentieth century, and roughly 2 percent a year since 1990.

Sources and series: see piketty.pse.ens.fr/capital21c.

I will have more to say later about the role played by inflation in the dynamics of wealth distribution, and in particular about the accumulation and distribution of fortunes, in various periods of time.

At this stage, I merely want to stress the fact that the loss of stable monetary reference points in the twentieth century marks a significant rupture with previous centuries, not only in the realms of economics and politics but also in regard to social, cultural, and literary matters. It is surely no accident that money—at least in the form of specific amounts—virtually disappeared from literature after the shocks of 1914–1945. Specific references to wealth and income were omnipresent in the literature of all countries before 1914; these references gradually dropped out of sight between 1914 and 1945 and never truly reemerged. This is true not only of European and American novels but also of the literature of other continents. The novels of Naguib Mahfouz, or at any rate those that unfold in Cairo between the two world wars, before prices were distorted by inflation, lavish attention on income and wealth as a way of situating characters and explaining their anxieties. We are not far from the world of Balzac and Austen. Obviously, the social structures are very different, but it is still possible to orient perceptions, expectations, and hierarchies in relation to monetary references. The novels of Orhan Pamuk, set in Istanbul in the 1970s, that is, in a period during which inflation had long since rendered the meaning of money ambiguous, omit mention of any specific sums. In Snow, Pamuk even has his hero, a novelist like himself, say that there is nothing more tiresome for a novelist than to speak about money or discuss last year’s prices and incomes. The world has clearly changed a great deal since the nineteenth century.

PART TWO

THE DYNAMICS OF THE CAPITAL/INCOME RATIO

{THREE}

The Metamorphoses of Capital

In Part One, I introduced the basic concepts of income and capital and reviewed the main stages of income and output growth since the Industrial Revolution.

In this part, I am going to concentrate on the evolution of the capital stock, looking at both its overall size, as measured by the capital/income ratio, and its breakdown into different types of assets, whose nature has changed radically since the eighteenth century. I will consider various forms of wealth (land, buildings, machinery, firms, stocks, bonds, patents, livestock, gold, natural resources, etc.) and examine their development over time, starting with Great Britain and France, the countries about which we possess the most information over the long run. But first I want to take a brief detour through literature, which in the cases of Britain and France offers a very good introduction to the subject of wealth.

The Nature of Wealth: From Literature to Reality

When Honoré de Balzac and Jane Austen wrote their novels at the beginning of the nineteenth century, the nature of wealth was relatively clear to all readers. Wealth seemed to exist in order to produce rents, that is, dependable, regular payments to the owners of certain assets, which usually took the form of land or government bonds. Père Goriot owned the latter, while the small estate of the Rastignacs consisted of the former. The vast Norland estate that John Dashwood inherits in Sense and Sensibility is also agricultural land, from which he is quick to expel his half-sisters Elinor and Marianne, who must make do with the interest on the small capital in government bonds left to them by their father. In the classic novels of the nineteenth century, wealth is everywhere, and no matter how large or small the capital, or who owns it, it generally takes one of two forms: land or government bonds.

From the perspective of the twenty-first century, these types of assets may seem old-fashioned, and it is tempting to consign them to the remote and supposedly vanished past, unconnected with the economic and social realities of the modern era, in which capital is supposedly more “dynamic.” Indeed, the characters in nineteenth-century novels often seem like archetypes of the rentier, a suspect figure in the modern era of democracy and meritocracy. Yet what could be more natural to ask of a capital asset than that it produce a reliable and steady income: that is in fact the goal of a “perfect” capital market as economists define it. It would be quite wrong, in fact, to assume that the study of nineteenth-century capital has nothing to teach us today.

When we take a closer look, the differences between the nineteenth and twenty-first centuries are less apparent than they might seem at first glance. In the first place, the two types of capital asset—land and government bonds—raise very different issues and probably should not be added together as cavalierly as nineteenth-century novelists did for narrative convenience. Ultimately, a government bond is nothing more than a claim of one portion of the population (those who receive interest) on another (those who pay taxes): it should therefore be excluded from national wealth and included solely in private wealth. The complex question of government debt and the nature of the wealth associated with it is no less important today than it was in 1800, and by studying the past we can learn a lot about an issue of great contemporary concern. Although today’s public debt is nowhere near the astronomical levels attained at the beginning of the nineteenth century, at least in Britain, it is at or near a historical record in France and many other countries and is probably the source of as much confusion today as in the Napoleonic era. The process of financial intermediation (whereby individuals deposit money in a bank, which then invests it elsewhere) has become so complex that people are often unaware of who owns what. To be sure, we are in debt. How can we possibly forget it, when the media remind us every day? But to whom exactly do we owe money? In the nineteenth century, the rentiers who lived off the public debt were clearly identified. Is that still the case today? This mystery needs to be dispelled, and studying the past can help us do so.

There is also another, even more important complication: many other forms of capital, some of them quite “dynamic,” played an essential role not only in classic novels but in the society of the time. After starting out as a noodle maker, Père Goriot made his fortune as a pasta manufacturer and grain merchant. During the wars of the revolutionary and Napoleonic eras, he had an unrivaled eye for the best flour and a knack for perfecting pasta production technologies and setting up distribution networks and warehouses so that he could deliver the right product to the right place at the right time. Only after making a fortune as an entrepreneur did he sell his share of the business, much in the manner of a twenty-first-century startup founder exercising his stock options and pocketing his capital gains. Goriot then invested the proceeds in safer assets: perpetual government bonds that paid interest indefinitely. With this capital he was able to arrange good marriages for his daughters and secure an eminent place for them in Parisian high society. On his deathbed in 1821, abandoned by his daughters Delphine and Anastasie, old Goriot still dreamt of juicy investments in the pasta business in Odessa.

César Birotteau, another Balzac character, made his money in perfumes. He was the ingenious inventor of any number of beauty products—Sultan’s Cream, Carminative Water, and so on—that Balzac tells us were all the rage in late imperial and Restoration France. But this was not enough for him: when the time came to retire, he sought to triple his capital by speculating boldly on real estate in the neighborhood of La Madeleine, which was developing rapidly in the 1820s. After rejecting the sage advice of his wife, who urged him to invest in good farmland near Chinon and government bonds, he ended in ruin.

Jane Austen’s heroes were more rural than Balzac’s. Prosperous landowners all, they were nevertheless wiser than Balzac’s characters in appearance only. In Mansfield Park, Fanny’s uncle, Sir Thomas, has to travel out to the West Indies for a year with his eldest son for the purpose of managing his affairs and investments. After returning to Mansfield, he is obliged to set out once again for the islands for a period of many months. In the early 1800s it was by no means simple to manage plantations several thousand miles away. Tending to one’s wealth was not a tranquil matter of collecting rent on land or interest on government debt.

So which was it: quiet capital or risky investments? Is it safe to conclude that nothing has really changed since 1800? What actual changes have occurred in the structure of capital since the eighteenth century? Père Goriot’s pasta may have become Steve Jobs’s tablet, and investments in the West Indies in 1800 may have become investments in China or South Africa in 2010, but has the deep structure of capital really changed? Capital is never quiet: it is always risk-oriented and entrepreneurial, at least at its inception, yet it always tends to transform itself into rents as it accumulates in large enough amounts—that is its vocation, its logical destination. What, then, gives us the vague sense that social inequality today is very different from social inequality in the age of Balzac and Austen? Is this just empty talk with no purchase on reality, or can we identify objective factors to explain why some people think that modern capital has become more “dynamic” and less “rent-seeking?”

FIGURE 3.1. Capital in Britain, 1700–2010

National capital is worth about seven years of national income in Britain in 1700 (including four in agricultural land).

Sources and series: see piketty.pse.ens.fr/capital21c.

The Metamorphoses of Capital in Britain and France

I will begin by looking at changes in the capital structure of Britain and France since the eighteenth century. These are the countries for which we possess the richest historical sources and have therefore been able to construct the most complete and homogeneous estimates over the long run. The principal results of this work are shown in Figures 3.1 and 3.2, which attempt to summarize several key aspects of three centuries in the history of capitalism. Two clear conclusions emerge.

FIGURE 3.2. Capital in France, 1700–2010

National capital is worth almost seven years of national income in France in 1910 (including one invested abroad).

Sources and series: see piketty.pse.ens.fr/capital21c.

We find, to begin with, that the capital/income ratio followed quite similar trajectories in both countries, remaining relatively stable in the eighteenth and nineteenth centuries, followed by an enormous shock in the twentieth century, before returning to levels similar to those observed on the eve of World War I. In both Britain and France, the total value of national capital fluctuated between six and seven years of national income throughout the eighteenth and nineteenth centuries, up to 1914. Then, after World War I, the capital/income ratio suddenly plummeted, and it continued to fall during the Depression and World War II, to the point where national capital amounted to only two or three years of national income in the 1950s. The capital/income ratio then began to climb and has continued to do so ever since. In both countries, the total value of national capital in 2010 is roughly five to six years’ worth of national income, indeed a bit more than six in France, compared with less than four in the 1980s and barely more than two in the 1950s. The measurements are of course not perfectly precise, but the general shape of the curve is clear.

In short, what we see over the course of the century just past is an impressive “U-shaped curve.” The capital/income ratio fell by nearly two-thirds between 1914 and 1945 and then more than doubled in the period 1945–2012.

These are very large swings, commensurate with the violent military, political, and economic conflicts that marked the twentieth century. Capital, private property, and the global distribution of wealth were key issues in these conflicts. The eighteenth and nineteenth centuries look tranquil by comparison.

In the end, by 2010, the capital/income ratio had returned to its pre–World War I level—or even surpassed it if we divide the capital stock by disposable household income rather than national income (a dubious methodological choice, as will be shown later). In any case, regardless of the imperfections and uncertainties of the available measures, there can be no doubt that Britain and France in the 1990s and 2000s regained a level of wealth not seen since the early twentieth century, at the conclusion of a process that originated in the 1950s. By the middle of the twentieth century, capital had largely disappeared. A little more than half a century later, it seems about to return to levels equal to those observed in the eighteenth and nineteenth centuries. Wealth is once again flourishing. Broadly speaking, it was the wars of the twentieth century that wiped away the past to create the illusion that capitalism had been structurally transformed.

As important as it is, this evolution of the overall capital/income ratio should not be allowed to obscure sweeping changes in the composition of capital since 1700. This is the second conclusion that emerges clearly from Figures 3.1 and 3.2. In terms of asset structure, twenty-first-century capital has little in common with eighteenth-century capital. The evolutions we see are again quite close to what we find happening in Britain and France. To put it simply, we can see that over the very long run, agricultural land has gradually been replaced by buildings, business capital, and financial capital invested in firms and government organizations. Yet the overall value of capital, measured in years of national income, has not really changed.

More precisely, remember that national capital, which is shown in Figures 3.1 and 3.2, is defined as the sum of private capital and public capital. Government debt, which is an asset for the private sector and a liability for the public sector, therefore nets out to zero (if each country owns its own government debt). As noted in Chapter 1, national capital, so defined, can be decomposed into domestic capital and net foreign capital. Domestic capital measures the value of the capital stock (buildings, firms, etc.) located within the territory of the country in question. Net foreign capital (or net foreign assets) measures the wealth of the country in question with respect to the rest of the world, that is, the difference between assets owned by residents of the country in the rest of the world and assets owned by the rest of the world in the country in question (including assets in the form of government bonds).

Domestic capital can in turn be broken down into three categories: farmland, housing (including the value of the land on which buildings stand), and other domestic capital, which covers the capital of firms and government organizations (including buildings used for business and the associated land, infrastructure, machinery, computers, patents, etc.). These assets, like any asset, are evaluated in terms of market value: for example, in the case of a corporation that issues stock, the value depends on the share price. This leads to the following decomposition of national capital, which I have used to create Figures 3.1 and 3.2:

National capital = farmland + housing + other domestic capital + net foreign capital

A glance at these graphs shows that at the beginning of the eighteenth century, the total value of farmland represented four to five years of national income, or nearly two-thirds of total national capital. Three centuries later, farmland was worth less than 10 percent of national income in both France and Britain and accounted for less than 2 percent of total wealth. This impressive change is hardly surprising: agriculture in the eighteenth century accounted for nearly three-quarters of all economic activity and employment, compared with just a few percent today. It is therefore natural that the share of capital involved in agriculture has evolved in a similar direction.

This collapse in the value of farmland (proportionate to national income and national capital) was counterbalanced on the one hand by a rise in the value of housing, which rose from barely one year of national income in the eighteenth century to more than three years today, and on the other hand by an increase in the value of other domestic capital, which rose by roughly the same amount (actually slightly less, from 1.5 years of national income in the eighteenth century to a little less than 3 years today).1 This very long-term structural transformation reflects on the one hand the growing importance of housing, not only in size but also in quality and value, in the process of economic and industrial development;2 and on the other the very substantial accumulation since the Industrial Revolution of buildings used for business purposes, infrastructure, machinery, warehouses, offices, tools, and other material and immaterial capital, all of which is used by firms and government organizations to produce all sorts of nonagricultural goods and services.3 The nature of capital has changed: it once was mainly land but has become primarily housing plus industrial and financial assets. Yet it has lost none of its importance.

The Rise and Fall of Foreign Capital

What about foreign capital? In Britain and France, it evolved in a very distinctive way, shaped by the turbulent history of these two leading colonial powers over the past three centuries. The net assets these two countries owned in the rest of the world increased steadily during the eighteenth and nineteenth centuries and attained an extremely high level on the eve of World War I, before literally collapsing in the period 1914–1945 and stabilizing at a relatively low level since then, as Figures 3.1 and 3.2 show.

Foreign possessions first became important in the period 1750–1800, as we know, for instance, from Sir Thomas’s investments in the West Indies in Jane Austen’s Mansfield Park. But the share of foreign assets remained modest: when Austen wrote her novel in 1812, they represented, as far as we can tell from the available sources, barely 10 percent of Britain’s national income, or one-thirtieth of the value of agricultural land (which amounted to more than three years of national income). Hence it comes as no surprise to discover that most of Austen’s characters lived on the rents from their rural properties.

It was during the nineteenth century that British subjects began to accumulate considerable assets in the rest of the world, in amounts previously unknown and never surpassed to this day. By the eve of World War I, Britain had assembled the world’s preeminent colonial empire and owned foreign assets equivalent to nearly two years of national income, or 6 times the total value of British farmland (which at that point was worth only 30 percent of national income).4 Clearly, the structure of wealth had been utterly transformed since the time of Mansfield Park, and one has to hope that Austen’s heroes and their descendants were able to adjust in time and follow Sir Thomas’s lead by investing a portion of their land rents abroad. By the turn of the twentieth century, capital invested abroad was yielding around 5 percent a year in dividends, interest, and rent, so that British national income was about 10 percent higher than its domestic product. A fairly significant social group were able to live off this boon.

France, which commanded the second most important colonial empire, was in a scarcely less enviable situation: it had accumulated foreign assets worth more than a year’s national income, so that in the first decade of the twentieth century its national income was 5–6 percent higher than its domestic product. This was equal to the total industrial output of the northern and eastern départements, and it came to France in the form of dividends, interest, royalties, rents, and other revenue on assets that French citizens owned in the country’s foreign possessions.5

It is important to understand that these very large net positions in foreign assets allowed Britain and France to run structural trade deficits in the late nineteenth and early twentieth century. Between 1880 and 1914, both countries received significantly more in goods and services from the rest of the world than they exported themselves (their trade deficits averaged 1–2 percent of national income throughout this period). This posed no problem, because their income from foreign assets totaled more than 5 percent of national income. Their balance of payments was thus strongly positive, which enabled them to increase their holdings of foreign assets year after year.6 In other words, the rest of the world worked to increase consumption by the colonial powers and at the same time became more and more indebted to those same powers. This may seem shocking. But it is essential to realize that the goal of accumulating assets abroad by way of commercial surpluses and colonial appropriations was precisely to be in a position later to run trade deficits. There would be no interest in running trade surpluses forever. The advantage of owning things is that one can continue to consume and accumulate without having to work, or at any rate continue to consume and accumulate more than one could produce on one’s own. The same was true on an international scale in the age of colonialism.

In the wake of the cumulative shocks of two world wars, the Great Depression, and decolonization, these vast stocks of foreign assets would eventually evaporate. In the 1950s, both France and Great Britain found themselves with net foreign asset holdings close to zero, which means that their foreign assets were just enough to balance the assets of the two former colonial powers owned by the rest of the world. Broadly speaking, this situation did not change much over the next half century. Between 1950 and 2010, the net foreign asset holdings of France and Britain varied from slightly positive to slightly negative while remaining quite close to zero, at least when compared with the levels observed previously.7

Finally, when we compare the structure of national capital in the eighteenth century to its structure now, we find that net foreign assets play a negligible role in both periods, and that the real long-run structural change is to be found in the gradual replacement of farmland by real estate and working capital, while the total capital stock has remained more or less unchanged relative to national income.

Income and Wealth: Some Orders of Magnitude

To sum up these changes, it is useful to take today’s world as a reference point. The current per capita national income in Britain and France is on the order of 30,000 euros per year, and national capital is about 6 times national income, or roughly 180,000 euros per head. In both countries, farmland is virtually worthless today (a few thousand euros per person at most), and national capital is broadly speaking divided into two nearly equal parts: on average, each citizen has about 90,000 euros in housing (for his or her own use or for rental to others) and about 90,000 euros worth of other domestic capital (primarily in the form of capital invested in firms by way of financial instruments).

As a thought experiment, let us go back three centuries and apply the national capital structure as it existed around 1700 but with the average amounts we find today: 30,000 euros annual income per capita and 180,000 euros of capital. Our representative French or British citizen would then own around 120,000 euros worth of land, 30,000 euros worth of housing, and 30,000 euros in other domestic assets.8 Clearly, some of these people (for example, Jane Austen’s characters: John Dashwood with his Norland estate and Charles Darcy with Pemberley) owned hundreds of hectares—capital worth tens or hundreds of millions of euros—while many others owned nothing at all. But these averages give us a somewhat more concrete idea of the way the structure of national capital has been utterly transformed since the eighteenth century while preserving roughly the same value in terms of annual income.

Now imagine this British or French person at the turn of the twentieth century, still with an average income of 30,000 euros and an average capital of 180,000. In Britain, farmland already accounted for only a small fraction of this wealth: 10,000 for each British subject, compared with 50,000 euros worth of housing and 60,000 in other domestic assets, together with nearly 60,000 in foreign investments. France was somewhat similar, except that each citizen still owned on average between 30,000 and 40,000 euros worth of land and roughly the same amount of foreign assets.9 In both countries, foreign assets had taken on considerable importance. Once again, it goes without saying that not everyone owned shares in the Suez Canal or Russian bonds. But by averaging over the entire population, which contained many people with no foreign assets at all and a small minority with substantial portfolios, we are able to measure the vast quantity of accumulated wealth in the rest of the world that French and British foreign asset holdings represented.

Public Wealth, Private Wealth

Before studying more precisely the nature of the shocks sustained by capital in the twentieth century and the reasons for the revival of capital since World War II, it will be useful at this point to broach the issue of the public debt, and more generally the division of national capital between public and private assets. Although it is difficult today, in an age where rich countries tend to accumulate substantial public debts, to remember that the public sector balance sheet includes assets as well as liabilities, we should be careful to bear this fact in mind.

To be sure, the distinction between public and private capital changes neither the total amount nor the composition of national capital, whose evolution I have just traced. Nevertheless, the division of property rights between the government and private individuals is of considerable political, economic, and social importance.

I will begin, then, by recalling the definitions introduced in Chapter 1. National capital (or wealth) is the sum of public capital and private capital. Public capital is the difference between the assets and liabilities of the state (including all public agencies), and private capital is of course the difference between the assets and liabilities of private individuals. Whether public or private, capital is always defined as net wealth, that is, the difference between the market value of what one owns (assets) and what one owes (liabilities, or debts).

Concretely, public assets take two forms. They can be nonfinancial (meaning essentially public buildings, used for government offices or for the provision of public services, primarily in health and education: schools, universities, hospitals, etc.) or financial. Governments can own shares in firms, in which they can have a majority or minority stake. These firms may be located within the nation’s borders or abroad. In recent years, for instance, so-called sovereign wealth funds have arisen to manage the substantial portfolios of foreign financial assets that some states have acquired.

In practice, the boundary between financial and nonfinancial assets need not be fixed. For example, when the French government transformed France Telecom and the French Post Office into shareholder-owned corporations, state-owned buildings used by both firms began to be counted as financial assets of the state, whereas previously they were counted as nonfinancial assets.

At present, the total value of public assets (both financial and non-financial) is estimated to be almost one year’s national income in Britain and a little less than 1 1/2 times that amount in France. Since the public debt of both countries amounts to about one year’s national income, net public wealth (or capital) is close to zero. According to the most recent official estimates by the statistical services and central banks of both countries, Britain’s net public capital is almost exactly zero and France’s is slightly less than 30 percent of national income (or one-twentieth of total national capital: see Table 3.1).10

In other words, if the governments of both countries decided to sell off all their assets in order to immediately pay off their debts, nothing would be left in Britain and very little in France.

Once again, we should not allow ourselves to be misled by the precision of these estimates. Countries do their best to apply the standardized concepts and methods established by the United Nations and other international organizations, but national accounting is not, and never will be, an exact science. Estimating public debts and financial assets poses no major problems. By contrast, it is not easy to set a precise market value on public buildings (such as schools and hospitals) or transportation infrastructure (such as railway lines and highways) since these are not regularly sold. In theory, such items are priced by observing the sales of similar items in the recent past, but such comparisons are not always reliable, especially since market prices frequently fluctuate, sometimes wildly. Hence these figures should be taken as rough estimates, not mathematical certainties.

In any event, there is absolutely no doubt that net public wealth in both countries is quite small and certainly insignificant compared with total private wealth. Whether net public wealth represents less than 1 percent of national wealth, as in Britain, or about 5 percent, as in France, or even 10 percent if we assume that the value of public assets is seriously underestimated, is ultimately of little or no importance for present purposes. Regardless of the imperfections of measurement, the crucial fact here is that private wealth in 2010 accounts for virtually all of national wealth in both countries: more than 99 percent in Britain and roughly 95 percent in France, according to the latest available estimates. In any case, the true figure is certainly greater than 90 percent.

FIGURE 3.3. Public wealth in Britain, 1700–2010

Public debt surpassed two years of national income in 1950 (versus one year for public assets).

Sources and series: see piketty.pse.ens.fr/capital21c.

Public Wealth in Historical Perspective

If we examine the history of public wealth in Britain and France since the eighteenth century, as well as the evolution of the public-private division of national capital, we find that the foregoing description has almost always been accurate (see Figures 3.3–6). To a first approximation, public assets and liabilities, and a fortiori the difference between the two, have generally represented very limited amounts compared with the enormous mass of private wealth. In both countries, net public wealth over the past three centuries has sometimes been positive, sometimes negative. But the oscillations, which have ranged, broadly speaking, between +100 and −100 percent of national income (and more often than not between +50 and −50) have all in all been limited in amplitude compared to the high levels of private wealth (as much as 700–800 percent of national income).

In other words, the history of the ratio of national capital to national income in France and Britain since the eighteenth century, summarized earlier, has largely been the history of the relation between private capital and national income (see Figures 3.5 and 3.6).

FIGURE 3.4. Public wealth in France, 1700–2010

Public debt is about one year of national income in France in 1780 as well as in 1880 and in 2000–2010.

Sources and series: see piketty.pse.ens.fr/capital21c.

The crucial fact here is of course well known: France and Britain have always been countries based on private property and never experimented with Soviet-style communism, where the state takes control of most capital. Hence it is not surprising that private wealth has always dominated public wealth. Conversely, neither country has ever amassed public debts sufficiently large to radically alter the magnitude of private wealth.

With this central fact in mind, it behooves us to push the analysis a bit farther. Even though public policy never went to extremes in either country, it did have a nonnegligible impact on the accumulation of private wealth at several points, and in different directions.

In eighteenth- and nineteenth-century Britain, the government tended at times to increase private wealth by running up large public debts. The French government did the same under the Ancien Régime and in the Belle Époque. At other times, however, the government tried to reduce the magnitude of private wealth. In France after World War II, public debts were canceled, and a large public sector was created; the same was true to a lesser extent in Britain during the same period. At present, both countries (along with most other wealthy countries) are running large public debts. Historical experience shows, however, that this can change fairly rapidly. It will therefore useful to lay some groundwork by studying historical reversals of policy in Britain and France. Both countries offer a rich and varied historical experience in this regard.

FIGURE 3.5. Private and public capital in Britain, 1700–2010

In 1810, private capital is worth eight years of national income in Britain (versus seven years for national capital).

Sources and series: see piketty.pse.ens.fr/capital21c.

FIGURE 3.6. Private and public capital in France, 1700–2010

In 1950, public capital is worth almost one year of national income versus two years for private capital.

Sources and series: see piketty.pse.ens.fr/capital21c.

Great Britain: Public Debt and the Reinforcement of Private Capital

I begin with the British case. On two occasions—first at the end of the Napoleonic wars and again after World War II—Britain’s public debt attained extremely high levels, around 200 percent of GDP or even slightly above that. Although no country has sustained debt levels as high as Britain’s for a longer period of time, Britain never defaulted on its debt. Indeed, the latter fact explains the former: if a country does not default in one way or another, either directly by simply repudiating its debt or indirectly through high inflation, it can take a very long time to pay off such a large public debt.

In this respect, Britain’s public debt in the nineteenth century is a textbook case. To look back a little farther in time: even before the Revolutionary War in America, Britain had accumulated large public debts in the eighteenth century, as had France. Both monarchies were frequently at war, both with each other and with other European countries, and they did not manage to collect enough in taxes to pay for their expenditures, so that public debt rose steeply. Both countries thus managed to amass debts on the order of 50 percent of national income in the period 1700–1720 and 100 percent of national income in the period 1760–1770.

The French monarchy’s inability to modernize its tax system and eliminate the fiscal privileges of the nobility is well known, as is the ultimate revolutionary resolution, initiated by the convocation of the Estates General in 1789, that led eventually to the introduction of a new tax system in 1790–1791. A land tax was imposed on all landowners and an estate tax on all inherited wealth. In 1797 came what was called the “banqueroute des deux tiers,” or “two-thirds bankruptcy,” which was in fact a massive default on two-thirds of the outstanding public debt, compounded by high inflation triggered by the issuance of assignats (paper money backed by nationalized land). This was how the debts of the Ancien Régime were ultimately dealt with.11 The French public debt was thus quickly reduced to a very low level in the first decades of the nineteenth century (less than 20 percent of national income in 1815).

Britain followed a totally different trajectory. In order to finance its war with the American revolutionaries as well as its many wars with France in the revolutionary and Napoleonic eras, the British monarchy chose to borrow without limit. The public debt consequently rose to 100 percent of national income in the early 1770s and to nearly 200 percent in the 1810s—10 times France’s debt in the same period. It would take a century of budget surpluses to gradually reduce Britain’s debt to under 30 percent of national income in the 1910s (see Figure 3.3).

What lessons can we draw from this historical experience? First, there is no doubt that Britain’s high level of public debt enhanced the influence of private wealth in British society. Britons who had the necessary means lent what the state demanded without appreciably reducing private investment: the very substantial increase in public debt in the period 1770–1810 was financed largely by a corresponding increase in private saving (proving that the propertied class in Britain was indeed prosperous and that yields on government bonds were attractive), so that national capital remained stable overall at around seven years of national income throughout the period, whereas private wealth rose to more than eight years of national income in the 1810s, as net public capital fell into increasingly negative territory (see Figure 3.5).

Hence it is no surprise that wealth is ubiquitous in Jane Austen’s novels: traditional landlords were joined by unprecedented numbers of government bondholders. (These were largely the same people, if literary sources count as reliable historical sources.) The result was an exceptionally high level of overall private wealth. Interest on British government bonds supplemented land rents as private capital grew to dimensions never before seen.

Second, it is also quite clear that, all things considered, this very high level of public debt served the interests of the lenders and their descendants quite well, at least when compared with what would have happened if the British monarchy had financed its expenditures by making them pay taxes. From the standpoint of people with the means to lend to the government, it is obviously far more advantageous to lend to the state and receive interest on the loan for decades than to pay taxes without compensation. Furthermore, the fact that the government’s deficits increased the overall demand for private wealth inevitably increased the return on that wealth, thereby serving the interests of those whose prosperity depended on the return on their investment in government bonds.

The central fact—and the essential difference from the twentieth century—is that the compensation to those who lent to the government was quite high in the nineteenth century: inflation was virtually zero from 1815 to 1914, and the interest rate on government bonds was generally around 4–5 percent; in particular, it was significantly higher than the growth rate. Under such conditions, investing in public debt can be very good business for wealthy people and their heirs.

Concretely, imagine a government that runs deficits on the order of 5 percent of GDP every year for twenty years (to pay, say, the wages of a large number of soldiers from 1795 to 1815) without having to increase taxes by an equivalent amount. After twenty years, an additional public debt of 100 percent of GDP will have been accumulated. Suppose that the government does not seek to repay the principal and simply pays the annual interest due on the debt. If the interest rate is 5 percent, it will have to pay 5 percent of GDP every year to the owners of this additional public debt, and must continue to do so until the end of time.

In broad outline, this is what Britain did in the nineteenth century. For an entire century, from 1815 to 1914, the British budget was always in substantial primary surplus: in other words, tax revenues always exceeded expenditures by several percent of GDP—an amount greater, for example, than the total expenditure on education throughout this period. It was only the growth of Britain’s domestic product and national income (nearly 2.5 percent a year from 1815 to 1914) that ultimately, after a century of penance, allowed the British to significantly reduce their public debt as a percentage of national income.12

Who Profits from Public Debt?

This historical record is fundamental for a number of reasons. First, it enables us to understand why nineteenth-century socialists, beginning with Marx, were so wary of public debt, which they saw—not without a certain perspicacity—as a tool of private capital.

This concern was all the greater because in those days investors in public debt were paid handsomely, not only in Britain but also in many other countries, including France. There was no repeat of the revolutionary bankruptcy of 1797, and the rentiers in Balzac’s novels do not seem to have worried any more about their government bonds than those in Jane Austen’s works. Indeed, inflation was as low in France as in Britain in the period 1815–1914, and interest on government bonds was always paid in a timely manner. French sovereign debt was a good investment throughout the nineteenth century, and private investors prospered on the proceeds, just as in Britain. Although the total outstanding public debt in France was quite limited in 1815, the amount grew over the next several decades, particularly during the Restoration and July Monarchy (1815–1848), during which the right to vote was based on a property qualification.

The French government incurred large debts in 1815–1816 to pay for an indemnity to the occupying forces and then again in 1825 to finance the notorious “émigrés’ billion,” a sum paid to aristocrats who fled France during the Revolution (to compensate them for the rather limited redistribution of land that took place in their absence). Under the Second Empire, financial interests were well served. In the fierce articles that Marx penned in 1849–1850, published in The Class Struggle in France, he took offense at the way Louis-Napoleon Bonaparte’s new minister of finance, Achille Fould, representing bankers and financiers, peremptorily decided to increase the tax on drinks in order to pay rentiers their due. Later, after the Franco-Prussian War of 1870–1871, the French government once again had to borrow from its population to pay for a transfer of funds to Germany equivalent to approximately 30 percent of national income.13 In the end, during the period 1880–1914, the French public debt was even higher than the British: 70 to 80 percent of national income compared with less than 50 percent. In French novels of the Belle Époque, interest on government bonds figured significantly. The government paid roughly 2–3 percent of national income in interest every year (more than the budget for national education), and a very substantial group of people lived on that interest.14

In the twentieth century, a totally different view of public debt emerged, based on the conviction that debt could serve as an instrument of policy aimed at raising public spending and redistributing wealth for the benefit of the least well-off members of society. The difference between these two views is fairly simple: in the nineteenth century, lenders were handsomely reimbursed, thereby increasing private wealth; in the twentieth century, debt was drowned by inflation and repaid with money of decreasing value. In practice, this allowed deficits to be financed by those who had lent money to the state, and taxes did not have to be raised by an equivalent amount. This “progressive” view of public debt retains its hold on many minds today, even though inflation has long since declined to a rate not much above the nineteenth century’s, and the distributional effects are relatively obscure.

It is interesting to recall that redistribution via inflation was much more significant in France than in Britain. As noted in Chapter 2, French inflation in the period 1913–1950 averaged more than 13 percent a year, which multiplied prices by a factor of 100. When Proust published Swann’s Way in 1913, government bonds seemed as indestructible as the Grand Hotel in Cabourg, where the novelist spent his summers. By 1950, the purchasing power of those bonds was a hundredth of what it had been, so that the rentiers of 1913 and their progeny had virtually nothing left.

What did this mean to the government? Despite a large initial public debt (nearly 80 percent of national income in 1913), and very high deficits in the period 1913–1950, especially during the war years, by 1950 French public debt once again stood at a relatively low level (about 30 percent of national income), just as in 1815. In particular, the enormous deficits of the Liberation were almost immediately canceled out by inflation above 50 percent per year in the four years 1945–1948, in a highly charged political climate. In a sense, this was the equivalent of the “two-thirds bankruptcy” of 1797: past loans were wiped off the books in order to rebuild the country with a low level of public debt (see Figure 3.4).

In Britain, things were done differently: more slowly and with less passion. Between 1913 and 1950, the average rate of inflation was a little more than 3 percent a year, which meant that prices increased by a factor of 3 (less than one-thirtieth as much as in France). For British rentiers, this was nevertheless a spoliation of a sort that would have been unimaginable in the nineteenth century, indeed right up to World War I. Still, it was hardly sufficient to prevent an enormous accumulation of public deficits during two world wars: Britain was fully mobilized to pay for the war effort without undue dependence on the printing press, with the result that by 1950 the country found itself saddled with a colossal debt, more than 200 percent of GDP, even higher than in 1815. Only with the inflation of the 1950s (more than 4 percent a year) and above all of the 1970s (nearly 15 percent a year) did Britain’s debt fall to around 50 percent of GDP (see Figure 3.3).

The mechanism of redistribution via inflation is extremely powerful, and it played a crucial historical role in both Britain and France in the twentieth century. It nevertheless raises two major problems. First, it is relatively crude in its choice of targets: among people with some measure of wealth, those who own government bonds (whether directly or indirectly via bank deposits) are not always the wealthiest: far from it. Second, the inflation mechanism cannot work indefinitely. Once inflation becomes permanent, lenders will demand a higher nominal interest rate, and the higher price will not have the desired effects. Furthermore, high inflation tends to accelerate constantly, and once the process is under way, its consequences can be difficult to master: some social groups saw their incomes rise considerably, while others did not. It was in the late 1970s—a decade marked by a mix of inflation, rising unemployment, and relative economic stagnation (“stagflation”)—that a new consensus formed around the idea of low inflation. I will return to this issue later.

The Ups and Downs of Ricardian Equivalence

This long and tumultuous history of public debt, from the tranquil rentiers of the eighteenth and nineteenth centuries to the expropriation by inflation of the twentieth century, has indelibly marked collective memories and representations. The same historical experiences have also left their mark on economists. For example, when David Ricardo formulated in 1817 the hypothesis known today as “Ricardian equivalence,” according to which, under certain conditions, public debt has no effect on the accumulation of national capital, he was obviously strongly influenced by what he witnessed around him. At the moment he wrote, British public debt was close to 200 percent of GDP, yet it seemed not to have dried up the flow of private investment or the accumulation of capital. The much feared “crowding out” phenomenon had not occurred, and the increase in public debt seemed to have been financed by an increase in private saving. To be sure, it does not follow from this that Ricardian equivalence is a universal law, valid in all times and places. Everything of course depended on the prosperity of the social group involved (in Ricardo’s day, a minority of Britons with enough wealth to generate the additional savings required), on the rate of interest that was offered, and of course on confidence in the government. But it is a fact worth noting that Ricardo, who had no access to historical time series or measurements of the type indicated in Figure 3.3 but who had intimate knowledge of the British capitalism of his time, clearly recognized that Britain’s gigantic public debt had no apparent impact on national wealth and simply constituted a claim of one portion of the population on another.15

Similarly, when John Maynard Keynes wrote in 1936 about “the euthanasia of the rentier,” he was also deeply impressed by what he observed around him: the pre–World War I world of the rentier was collapsing, and there was in fact no other politically acceptable way out of the economic and budgetary crisis of the day. In particular, Keynes clearly felt that inflation, which the British were still reluctant to accept because of strong conservative attachment to the pre-1914 gold standard, would be the simplest though not necessarily the most just way to reduce the burden of public debt and the influence of accumulated wealth.

Since the 1970s, analyses of the public debt have suffered from the fact that economists have probably relied too much on so-called representative agent models, that is, models in which each agent is assumed to earn the same income and to be endowed with the same amount of wealth (and thus to own the same quantity of government bonds). Such a simplification of reality can be useful at times in order to isolate logical relations that are difficult to analyze in more complex models. Yet by totally avoiding the issue of inequality in the distribution of wealth and income, these models often lead to extreme and unrealistic conclusions and are therefore a source of confusion rather than clarity. In the case of public debt, representative agent models can lead to the conclusion that government debt is completely neutral, in regard not only to the total amount of national capital but also to the distribution of the fiscal burden. This radical reinterpretation of Ricardian equivalence, which was first proposed by the American economist Robert Barro,16 fails to take account of the fact that the bulk of the public debt is in practice owned by a minority of the population (as in nineteenth-century Britain but not only there), so that the debt is the vehicle of important internal redistributions when it is repaid as well as when it is not. In view of the high degree of concentration that has always been characteristic of the wealth distribution, to study these questions without asking about inequalities between social groups is in fact to say nothing about significant aspects of the subject and what is really at stake.

France: A Capitalism without Capitalists in the Postwar Period

I return now to the history of public wealth and to the question of assets held by the government. Compared with the history of government debt, the history of public assets is seemingly less tumultuous.

To simplify, one can say that the total value of public assets increased over the long run in both France and Britain, rising from barely 50 percent of national income in the eighteenth and nineteenth centuries to roughly 100 percent at the end of the twentieth century (see Figures 3.3 and 3.4).

To a first approximation, this increase reflects the steady expansion of the economic role of the state over the course of history, including in particular the development of ever more extensive public services in the areas of health and education (necessitating major investments in buildings and equipment) together with public or semipublic infrastructural investments in transportation and communication. These public services and infrastructures are more extensive in France than in Britain: the total value of public assets in France in 2010 is close to 150 percent of national income, compared with barely 100 percent across the Channel.

Nevertheless, this simplified, tranquil view of the accumulation of public assets over the long run omits an important aspect of the history of the last century: the accumulation of significant public assets in the industrial and financial sectors in the period 1950–1980, followed by major waves of privatization of the same assets after 1980. Both phenomena can be observed to varying degrees in most developed countries, especially in Europe, as well as in many emerging economies.

The case of France is emblematic. To understand it, we can look back in time. Not only in France but in countries around the world, faith in private capitalism was greatly shaken by the economic crisis of the 1930s and the cataclysms that followed. The Great Depression, triggered by the Wall Street crash of October 1929, struck the wealthy countries with a violence that has never been repeated to this day: a quarter of the working population in the United States, Germany, Britain, and France found themselves out of work. The traditional doctrine of “laissez faire,” or nonintervention by the state in the economy, to which all countries adhered in the nineteenth century and to a large extent until the early 1930s, was durably discredited. Many countries opted for a greater degree of interventionism. Naturally enough, governments and the general public questioned the wisdom of financial and economic elites who had enriched themselves while leading the world to disaster. People began to think about different types of “mixed” economy, involving varying degrees of public ownership of firms alongside traditional forms of private property, or else, at the very least, a strong dose of public regulation and supervision of the financial system and of private capitalism more generally.

Furthermore, the fact that the Soviet Union joined the victorious Allies in World War II enhanced the prestige of the statist economic system the Bolsheviks had put in place. Had not that system allowed the Soviets to lead a notoriously backward country, which in 1917 had only just emerged from serfdom, on a forced march to industrialization? In 1942, Joseph Schumpeter believed that socialism would inevitably triumph over capitalism. In 1970, when Paul Samuelson published the eighth edition of his famous textbook, he was still predicting that the GDP of the Soviet Union might outstrip that of the United States sometime between 1990 and 2000.17

In France, this general climate of distrust toward private capitalism was deepened after 1945 by the fact that many members of the economic elite were suspected of having collaborated with the German occupiers and indecently enriched themselves during the war. It was in this highly charged post-Liberation climate that major sectors of the economy were nationalized, including in particular the banking sector, the coal mines, and the automobile industry. The Renault factories were punitively seized after their owner, Louis Renault, was arrested as a collaborator in September 1944. The provisional government nationalized the firm in January 1945.18

In 1950, according to available estimates, the total value of French public assets exceeded one year’s national income. Since the value of public debt had been sharply reduced by inflation, net public wealth was close to one year’s national income, at a time when total private wealth was worth barely two years of national income (see Figure 3.6). As usual, one should not be misled by the apparent precision of these estimates: it is difficult to measure the value of capital in this period, when asset prices had attained historic lows, and it is possible that public assets are slightly undervalued compared with private assets. But the orders of magnitude may be taken as significant: in 1950, the government of France owned 25–30 percent of the nation’s wealth, and perhaps even a little more.

This is a significant proportion, especially in view of the fact that public ownership left small and medium firms untouched, along with agriculture, and never claimed more than a minority share (less than 20 percent) of residential real estate. In the industrial and financial sectors most directly affected by the postwar nationalizations, the state’s share of national wealth exceeded 50 percent from 1950 to 1980.

Although this historical episode was relatively brief, it is important for understanding the complex attitude of the French people toward private capitalism even today. Throughout the Trente Glorieuses, during which the country was rebuilt and economic growth was strong (stronger that at any other time in the nation’s history), France had a mixed economy, in a sense a capitalism without capitalists, or at any rate a state capitalism in which private owners no longer controlled the largest firms.

To be sure, waves of nationalization also occurred in this same period in many other countries, including Britain, where the value of public assets also exceeded a year’s national income in 1950—a level equal to that of France. The difference is that British public debt at the time exceeded two years of national income, so that net public wealth was significantly negative in the 1950s, and private wealth was that much greater. Net public wealth did not turn positive in Britain until the 1960s–1970s, and even then it remained less than 20 percent of national income (which is already quite large).19

What is distinctive about the French trajectory is that public ownership, having thrived from 1950 to 1980, dropped to very low levels after 1980, even as private wealth—both financial and real estate—rose to levels even higher than Britain’s: nearly six years of national income in 2010, or 20 times the value of public wealth. Following a period of state capitalism after 1950, France became the promised land of the new private-ownership capitalism of the twenty-first century.

What makes the change all the more striking is that it was never clearly acknowledged for what it was. The privatization of the economy, including both liberalization of the market for goods and services and deregulation of financial markets and capital flows, which affected countries around the world in the 1980s, had multiple and complex origins. The memory of the Great Depression and subsequent disasters had faded. The “stagflation” of the 1970s demonstrated the limits of the postwar Keynesian consensus. With the end of postwar reconstruction and the high growth rates of the Trente Glorieuses, it was only natural to question the wisdom of indefinitely expanding the role of the state and its increasing claims on national output. The deregulation movement began with the “conservative revolutions” of 1979–1980 in the United States and Britain, as both countries increasingly chafed at being overtaken by others (even though the catch-up was a largely inevitable process, as noted in Chapter 2). Meanwhile, the increasingly obvious failure of statist Soviet and Chinese models in the 1970s led both communist giants to begin a gradual liberalization of their economic systems in the 1980s by introducing new forms of private property in firms.

Despite these converging international currents, French voters in 1981 displayed a certain desire to sail against the wind. Every country has its own history, of course, and its own political timetable. In France, a coalition of Socialists and Communists won a majority on a platform that promised to continue the nationalization of the industrial and banking sectors begun in 1945. This proved to be a brief intermezzo, however, since in 1986 a liberal majority initiated a very important wave of privatization in all sectors. This initiative was then continued and amplified by a new socialist majority in the period 1988–1993. The Renault Company became a joint-stock corporation in 1990, as did the public telecommunications administration, which was transformed into France Telecom and opened to private investment in 1997–1998. In a context of slower growth, high unemployment, and large government deficits, the progressive sale of publicly held shares after 1990 brought additional funds into public coffers, although it did not prevent a steady increase in the public debt. Net public wealth fell to very low levels. Meanwhile, private wealth slowly returned to levels not seen since the shocks of the twentieth century. In this way, France totally transformed its national capital structure at two different points in time without really understanding why.

{FOUR}

From Old Europe to the New World

In the previous chapter, I examined the metamorphoses of capital in Britain and France since the eighteenth century. The lessons to be learned from each country proved consistent and complementary. The nature of capital was totally transformed, but in the end its total amount relative to income scarcely changed at all. To gain a better understanding of the different historical processes and mechanisms involved, the analysis must now extend to other countries. I will begin by looking at Germany, which will round out the European panorama. Then I will turn my attention to capital in North America (the United States and Canada). Capital in the New World took some quite unusual and specific forms, in the first place because land was so abundant that it did not cost very much; second, because of the existence of slavery; and finally, because this region of perpetual demographic growth tended to accumulate structurally smaller amounts of capital (relative to annual income and output) than Europe did. This will lead to the question of what fundamentally determines the capital/income ratio in the long run, which will be the subject of Chapter 5. I will approach that question by extending the analysis first to all the wealthy countries and then to the entire globe, insofar as the sources allow.

Germany: Rhenish Capitalism and Social Ownership

I begin with the case of Germany. It is interesting to compare the British and French trajectories with the German, especially in regard to the issue of mixed economy, which became important, as noted, after World War II. Unfortunately, the historical data for Germany are more diverse, owing to the lateness of German unification and numerous territorial changes, so there is no satisfactory way to trace the history back beyond 1870. Still, the estimates we have for the period after 1870 reveal clear similarities with Britain and France, as well as a number of differences.

FIGURE 4.1. Capital in Germany, 1870–2010

National capital is worth 6.5 years of national income in Germany in 1910 (including about 0.5 year invested abroad).

Sources and series: see piketty.pse.ens.fr/capital21c.

The first thing to notice is that the overall evolution is similar: first, agricultural land gave way in the long run to residential and commercial real estate and industrial and financial capital, and second, the capital/income ratio has grown steadily since World War II and appears to be on its way to regaining the level it had attained prior to the shocks of 1914–1945 (see Figure 4.1).

Note that the importance of farmland in late nineteenth-century Germany made the German case resemble the French more than the British one (agriculture had not yet disappeared east of the Rhine), and the value of industrial capital was higher than in either France or Britain. By contrast, Germany on the eve of World War I had only half as much in foreign assets as France (roughly 50 percent of national income versus a year’s worth of income for France) and only a quarter as much as Britain (whose foreign assets were worth two years of national income). The main reason for this is of course that Germany had no colonial empire, a fact that was the source of some very powerful political and military tensions: think, for example, of the Moroccan crises of 1905 and 1911, when the Kaiser sought to challenge French supremacy in Morocco. The heightened competition among European powers for colonial assets obviously contributed to the climate that ultimately led to the declaration of war in the summer of 1914: one need not subscribe to all of Lenin’s theses in Imperialism, the Highest Stage of Capitalism (1916) to share this conclusion.

Note, too, that Germany over the past several decades has amassed substantial foreign assets thanks to trade surpluses. By 2010, Germany’s net foreign asset position was close to 50 percent of national income (more than half of which has been accumulated since 2000). This is almost the same level as in 1913. It is a small amount compared to the foreign asset positions of Britain and France at the end of the nineteenth century, but it is substantial compared to the current positions of the two former colonial powers, which are close to zero. A comparison of Figure 4.1 with Figures 3.1–2 shows how different the trajectories of Germany, France, and Britain have been since the nineteenth century: to a certain extent they have inverted their respective positions. In view of Germany’s very large current trade surpluses, it is not impossible that this divergence will increase. I will come back to this point.

In regard to public debt and the split between public and private capital, the German trajectory is fairly similar to the French. With average inflation of nearly 17 percent between 1930 and 1950, which means that prices were multiplied by a factor of 300 between those dates (compared with barely 100 in France), Germany was the country that, more than any other, drowned its public debt in inflation in the twentieth century. Despite running large deficits during both world wars (the public debt briefly exceeded 100 percent of GDP in 1918–1920 and 150 percent of GDP in 1943–1944), inflation made it possible in both instances to shrink the debt very rapidly to very low levels: barely 20 percent of GDP in 1930 and again in 1950 (see Figure 4.2).1 Yet the recourse to inflation was so extreme and so violently destabilized German society and economy, especially during the hyperinflation of the 1920s, that the German public came away from these experiences with a strongly antiinflationist attitude.2 That is why the following paradoxical situation exists today: Germany, the country that made the most dramatic use of inflation to rid itself of debt in the twentieth century, refuses to countenance any rise in prices greater than 2 percent a year, whereas Britain, whose government has always paid its debts, even more than was reasonable, has a more flexible attitude and sees nothing wrong with allowing its central bank to buy a substantial portion of its public debt even if it means slightly higher inflation.

FIGURE 4.2. Public wealth in Germany, 1870–2010

Public debt is worth almost one year of national income in Germany in 2010 (as much as assets).

Sources and series: see piketty.pse.ens.fr/capital21c.

In regard to the accumulation of public assets, the German case is again similar to the French: the government took large positions in the banking and industrial sectors in the period 1950–1980, then partially sold off those positions between 1980 and 2000, but substantial holdings remain. For example, the state of Lower Saxony today owns more than 15 percent of the shares (and 20 percent of the voting rights, which are guaranteed by law, despite objections from the European Union) of Volkswagen, the leading automobile manufacturer in Europe and the world.3 In the period 1950–1980, when public debt was close to zero, net public capital was close to one year’s national income in Germany, compared with barely two years for private capital, which then stood at a very low level (see Figure 4.3). Just as in France, the government owned 25–30 percent of Germany’s national capital during the decades of postwar reconstruction and the German economic miracle. Just as in France, the slowdown in economic growth after 1970 and the accumulation of public debt (which began well before reunification and has continued since) led to a complete turnaround over the course of the past few decades. Net public wealth was almost exactly zero in 2010, and private wealth, which has grown steadily since 1950, accounts for nearly all of national wealth.

FIGURE 4.3. Private and public capital in Germany, 1870–2010

In 1970, public capital is worth almost one year of national income, versus slightly more than two for private capital.

Sources and series: see piketty.pse.ens.fr/capital21c.

There is, however, a significant difference between the value of private capital in Germany compared to that in France and Britain. German private wealth has increased enormously since World War II: it was exceptionally low in 1950 (barely a year and a half of national income), but today it stands at more than four years of national income. The reconstitution of private wealth in all three countries emerges clearly from Figure 4.4. Nevertheless, German private wealth in 2010 was noticeably lower than private wealth in Britain and France: barely four years of national income in Germany compared with five or six in France and Britain and more than six in Italy and Spain (as we will see in Chapter 5). Given the high level of German saving, this low level of German wealth compared to other European countries is to some extent a paradox, which may be transitory and can be explained as follows.4

The first factor to consider is the low price of real estate in Germany compared to other European countries, which can be explained in part by the fact that the sharp price increases seen everywhere else after 1990 were checked in Germany by the effects of German reunification, which brought a large number of low-cost houses onto the market. To explain the discrepancy over the long term, however, we would need more durable factors, such as stricter rent control.

FIGURE 4.4. Private and public capital in Europe, 1870–2010

The fluctuations of national capital in Europe in the long run are mostly due to the fluctuations of private capital.

Sources and series: see piketty.pse.ens.fr/capital21c.

In any case, most of the gap between Germany on the one hand and France and Britain on the other stems not from the difference in the value of the housing stock but rather from the difference in the value of other domestic capital, and primarily the capital of firms (see Figure 4.1). In other words, the gap arises not from the low valuation of German real estate but rather from the low stock market valuation of German firms. If, in measuring total private wealth, we used not stock market value but book value (obtained by subtracting a firm’s debt from the cumulative value of its investments), the German paradox would disappear: German private wealth would immediately rise to French and British levels (between five and six years of national income rather than four). These complications may appear to be purely matters of accounting but are in fact highly political.

At this stage, suffice it to say that the lower market values of German firms appear to reflect the character of what is sometimes called “Rhenish capitalism” or “the stakeholder model,” that is, an economic model in which firms are owned not only by shareholders but also by certain other interested parties known as “stakeholders,” starting with representatives of the firms’ workers (who sit on the boards of directors of German firms not merely in a consultative capacity but as active participants in deliberations, even though they may not be shareholders), as well as representatives of regional governments, consumers’ associations, environmental groups, and so on. The point here is not to idealize this model of shared social ownership, which has its limits, but simply to note that it can be at least as efficient economically as Anglo-Saxon market capitalism or “the shareholder model” (in which all power lies in theory with shareholders, although in practice things are always more complex), and especially to observe that the stakeholder model inevitably implies a lower market valuation but not necessarily a lower social valuation. The debate about different varieties of capitalism erupted in the early 1990s after the collapse of the Soviet Union.5 Its intensity later waned, in part no doubt because the German economic model seemed to be losing steam in the years after reunification (between 1998 and 2002, Germany was often presented as the sick man of Europe). In view of Germany’s relatively good health in the midst of the global financial crisis (2007–2012), it is not out of the question that this debate will be revived in the years to come.6

Shocks to Capital in the Twentieth Century

Now that I have presented a first look at the general evolution of the capital/income ratio and the public-private split over the long run, I must return to the question of chronology and in particular attempt to understand the reasons first for the collapse of the capital/income ratio over the course of the twentieth century and then for its spectacular recovery.

Note first of all that this was a phenomenon that affected all European countries. All available sources indicate that the changes observed in Britain, France, and Germany (which together in 1910 and again in 2010 account for more than two-thirds of the GDP of Western Europe and more than half of the GDP of all of Europe) are representative of the entire continent: although interesting variations between countries do exist, the overall pattern is the same. In particular, the capital/income ratio in Italy and Spain has risen quite sharply since 1970, even more sharply than in Britain and France, and the available historical data suggest that it was on the order of six or seven years of national income around the turn of the twentieth century. Available estimates for Belgium, the Netherlands, and Austria indicate a similar pattern.7

Next, we must insist on the fact that the fall in the capital/income ratio between 1914 and 1945 is explained to only a limited extent by the physical destruction of capital (buildings, factories, infrastructure, etc.) due to the two world wars. In Britain, France, and Germany, the value of national capital was between six and a half and seven years of national income in 1913 and fell to around two and a half years in 1950: a spectacular drop of more than four years of national income (see Figures 4.4 and 4.5). To be sure, there was substantial physical destruction of capital, especially in France during World War I (during which the northeastern part of the country, on the front lines, was severely battered) and in both France and Germany during World War II owing to massive bombing in 1944–1945 (although the periods of combat were shorter than in World War I, the technology was considerably more destructive). All in all, capital worth nearly a year of national income was destroyed in France (accounting for one-fifth to one-quarter of the total decline in the capital/income ratio), and a year and a half in Germany (or roughly a third of the total decline). Although these losses were quite significant, they clearly explain only a fraction of the total drop, even in the two countries most directly affected by the conflicts. In Britain, physical destruction was less extensive—insignificant in World War I and less than 10 percent of national income owing to German bombing in World War II—yet national capital fell by four years of national income (or more than 40 times the loss due to physical destruction), as much as in France and Germany.

FIGURE 4.5. National capital in Europe, 1870–2010

National capital (sum of public and private capital) is worth between two and three years of national income in Europe in 1950.

Sources and series: see piketty.pse.ens.fr/capital21c.

In fact, the budgetary and political shocks of two wars proved far more destructive to capital than combat itself. In addition to physical destruction, the main factors that explain the dizzying fall in the capital/income ratio between 1913 and 1950 were on the one hand the collapse of foreign portfolios and the very low savings rate characteristic of the time (together, these two factors, plus physical destruction, explain two-thirds to three-quarters of the drop) and on the other the low asset prices that obtained in the new postwar political context of mixed ownership and regulation (which accounted for one-quarter to one-third of the drop).

I have already mentioned the importance of losses on foreign assets, especially in Britain, where net foreign capital dropped from two years of national income on the eve of World War I to a slightly negative level in the 1950s. Britain’s losses on its international portfolio were thus considerably greater than French or German losses through physical destruction of domestic capital, and these more than made up for the relatively low level of physical destruction on British soil.

The decline of foreign capital stemmed in part from expropriations due to revolution and the process of decolonization (think of the Russian loans to which many French savers subscribed in the Belle Époque and that the Bolsheviks repudiated in 1917, or the nationalization of the Suez Canal by Nasser in 1956, to the dismay of the British and French shareholders who owned the canal and had been collecting dividends and royalties on it since 1869) and in even greater part to the very low savings rate observed in various European countries between 1914 and 1945, which led British and French (and to a lesser degree German) savers to gradually sell off their foreign assets. Owing to low growth and repeated recessions, the period 1914–1945 was a dark one for all Europeans but especially for the wealthy, whose income dwindled considerably in comparison with the Belle Époque. Private savings rates were therefore relatively low (especially if we deduct the amount of reparations and replacement of war-damaged property), and some people consequently chose to maintain their standard of living by gradually selling off part of their capital. When the Depression came in the 1930s, moreover, many stock- and bondholders were ruined as firm after firm went bankrupt.

Furthermore, the limited amount of private saving was largely absorbed by enormous public deficits, especially during the wars: national saving, the sum of private and public saving, was extremely low in Britain, France, and Germany between 1914 and 1945. Savers lent massively to their governments, in some cases selling their foreign assets, only to be ultimately expropriated by inflation, very quickly in France and Germany and more slowly in Britain, which created the illusion that private wealth in Britain was faring better in 1950 than private wealth on the continent. In fact, national wealth was equally affected in both places (see Figures 4.4 and 4.5). At times governments borrowed directly from abroad: that is how the United States went from a negative position on the eve of World War I to a positive position in the 1950s. But the effect on the national wealth of Britain or France was the same.8

Ultimately, the decline in the capital/income ratio between 1913 and 1950 is the history of Europe’s suicide, and in particular of the euthanasia of European capitalists.

This political, military, and budgetary history would be woefully incomplete, however, if we did not insist on the fact that the low level of the capital/income ratio after World War II was in some ways a positive thing, in that it reflected in part a deliberate policy choice aimed at reducing—more or less consciously and more or less efficaciously—the market value of assets and the economic power of their owners. Concretely, real estate values and stocks fell to historically low levels in the 1950s and 1960s relative to the price of goods and services, and this goes some way toward explaining the low capital/income ratio. Remember that all forms of wealth are evaluated in terms of market prices at a given point in time. This introduces an element of arbitrariness (markets are often capricious), but it is the only method we have for calculating the national capital stock: how else could one possibly add up hectares of farmland, square meters of real estate, and blast furnaces?

In the postwar period, housing prices stood at historic lows, owing primarily to rent control policies that were adopted nearly everywhere in periods of high inflation such as the early 1920s and especially the 1940s. Rents rose less sharply than other prices. Housing became less expensive for tenants, while landlords earned less on their properties, so real estate prices fell. Similarly, the value of firms, that is, the value of the stock of listed firms and shares of partnerships, fell to relatively low levels in the 1950s and 1960s. Not only had confidence in the stock markets been strongly shaken by the Depression and the nationalizations of the postwar period, but new policies of financial regulation and taxation of dividends and profits had been established, helping to reduce the power of stockholders and the value of their shares.

Detailed estimates for Britain, France, and Germany show that low real estate and stock prices after World War II account for a nonnegligible but still minority share of the fall in the capital/income ratio between 1913 and 1950: between one-quarter and one-third of the drop depending on the country, whereas volume effects (low national savings rate, loss of foreign assets, destructions) account for two-thirds to three-quarters of the decline.9 Similarly, as I will show in the next chapter, the very strong rebound of real estate and stock market prices in the 1970s and 1980s and especially the 1990s and 2000s explains a significant part of the rebound in the capital/income ratio, though still less important than volume effects, linked this time to a structural decrease in the rate of growth.

Capital in America: More Stable Than in Europe

Before studying in greater detail the rebound in the capital/income ratio in the second half of the twentieth century and analyzing the prospects for the twenty-first century, I now want to move beyond the European framework to examine the historical forms and levels of capital in America.

Several facts stand out clearly. First, America was the New World, where capital mattered less than in the Old World, meaning old Europe. More precisely, the value of the stock of national capital, based on numerous contemporary estimates I have collected and compared, as for other countries, was scarcely more than three years of national income around the time that the United States gained its independence, in the period 1770–1810. Farmland was valued at between one and one and a half years of national income (see Figure 4.6). Uncertainties notwithstanding, there is no doubt that the capital/income ratio was much lower in the New World colonies than in Britain or France, where national capital was worth roughly seven years of national income, of which farmland accounted for nearly four (see Figures 3.1 and 3.2).

The crucial point is that the number of hectares per person was obviously far greater in North America than in old Europe. In volume, capital per capita was therefore higher in the United States. Indeed, there was so much land that its market value was very low: anyone could own vast quantities, and therefore it was not worth very much. In other words, the price effect more than counterbalanced the volume effect: when the volume of a given type of capital exceeds certain thresholds, its price will inevitably fall to a level so low that the product of the price and volume, which is the value of the capital, is lower than it would be if the volume were smaller.

FIGURE 4.6. Capital in the United States, 1770–2010

National capital is worth three years of national income in the United States in 1770 (including 1.5 years in agricultural land).

Sources and series: see piketty.pse.ens.fr/capital21c.

The considerable difference between the price of land in the New World and in Europe at the end of the eighteenth century and the beginning of the nineteenth is confirmed by all available sources concerning land purchases and inheritances (such as probate records and wills).

Furthermore, the other types of capital—housing and other domestic capital—were also relatively less important in the colonial era and during the early years of the American republic (in comparison to Europe). The reason for this is different, but the fact is not surprising. New arrivals, who accounted for a very large proportion of the US population, did not cross the Atlantic with their capital of homes or tools or machinery, and it took time to accumulate the equivalent of several years of national income in real estate and business capital.

Make no mistake: the low capital/income ratio in America reflected a fundamental difference in the structure of social inequalities compared with Europe. The fact that total wealth amounted to barely three years of national income in the United States compared with more than seven in Europe signified in a very concrete way that the influence of landlords and accumulated wealth was less important in the New World. With a few years of work, the new arrivals were able to close the initial gap between themselves and their wealthier predecessors—or at any rate it was possible to close the wealth gap more rapidly than in Europe.

In 1840, Tocqueville noted quite accurately that “the number of large fortunes [in the United States] is quite small, and capital is still scarce,” and he saw this as one obvious reason for the democratic spirit that in his view dominated there. He added that, as his observations showed, all of this was a consequence of the low price of agricultural land: “In America, land costs little, and anyone can easily become a landowner.”10 Here we can see at work the Jeffersonian ideal of a society of small landowners, free and equal.

Things would change over the course of the nineteenth century. The share of agriculture in output decreased steadily, and the value of farmland also declined, as in Europe. But the United States accumulated a considerable stock of real estate and industrial capital, so that national capital was close to five years of national income in 1910, versus three in 1810. The gap with old Europe remained, but it had shrunk by half in one century (see Figure 4.6). The United States had become capitalist, but wealth continued to have less influence than in Belle Époque Europe, at least if we consider the vast US territory as a whole. If we limit our gaze to the East Coast, the gap is smaller still. In the film Titanic, the director, James Cameron, depicted the social structure of 1912. He chose to make wealthy Americans appear just as prosperous—and arrogant—as their European counterparts: for instance, the detestable Hockley, who wants to bring young Rose to Philadelphia in order to marry her. (Heroically, she refuses to be treated as property and becomes Rose Dawson.) The novels of Henry James that are set in Boston and New York between 1880 and 1910 also show social groups in which real estate and industrial and financial capital matter almost as much as in European novels: times had indeed changed since the Revolutionary War, when the United States was still a land without capital.

The shocks of the twentieth century struck America with far less violence than Europe, so that the capital/income ratio remained far more stable: it oscillated between four and five years of national income from 1910 to 2010 (see Figure 4.6), whereas in Europe it dropped from more than seven years to less than three before rebounding to five or six (see Figures 3.1–2).

FIGURE 4.7. Public wealth in the United States, 1770–2010

Public debt is worth one year of national income in the United States in 1950 (almost as much as assets).

Sources and series: see piketty.pse.ens.fr/capital21c.

To be sure, US fortunes were also buffeted by the crises of 1914–1945. Public debt rose sharply in the United States due to the cost of waging war, especially during World War II, and this affected national saving in a period of economic instability: the euphoria of the 1920s gave way to the Depression of the 1930s. (Cameron tells us that the odious Hockley commits suicide in October 1929.). Under Franklin D. Roosevelt, moreover, the United States adopted policies designed to reduce the influence of private capital, such as rent control, just as in Europe. After World War II, real estate and stock prices stood at historic lows. When it came to progressive taxation, the United States went much farther than Europe, possibly demonstrating that the goal there was more to reduce inequality than to eradicate private property. No sweeping policy of nationalization was attempted, although major public investments were initiated in the 1930s and 1940s, especially in infrastructures. Inflation and growth eventually returned public debt to a modest level in the 1950s and 1960s, so that public wealth was distinctly positive in 1970 (see Figure 4.7). In the end, American private wealth decreased from nearly five years of national income in 1930 to less than three and a half in 1970, a not insignificant decline (see Figure 4.8).

FIGURE 4.8. Private and public capital in the United States, 1770–2010

In 2010, public capital is worth 20 percent of national income, versus over 400 percent for private capital.

Sources and series: see piketty.pse.ens.fr/capital21c.

Nevertheless, the “U-shaped curve” of the capital/income ratio in the twentieth century is smaller in amplitude in the United States than in Europe. Expressed in years of income or output, capital in the United States seems to have achieved virtual stability from the turn of the twentieth century on—so much so that a stable capital/income or capital/output ratio is sometimes treated as a universal law in US textbooks (like Paul Samuelson’s). In comparison, Europe’s relation to capital, and especially private capital, was notably chaotic in the century just past. In the Belle Époque capital was king. In the years after World War II many people thought capitalism had been almost eradicated. Yet at the beginning of the twenty-first century Europe seems to be in the avant-garde of the new patrimonial capitalism, with private fortunes once again surpassing US levels. This is fairly well explained by the lower rate of economic and especially demographic growth in Europe compared with the United States, leading automatically to increased influence of wealth accumulated in the past, as we will see in Chapter 5. In any case, the key fact is that the United States enjoyed a much more stable capital/income ratio than Europe in the twentieth century, perhaps explaining why Americans seem to take a more benign view of capitalism than Europeans.

The New World and Foreign Capital

Another key difference between the history of capital in America and Europe is that foreign capital never had more than a relatively limited importance in the United States. This is because the United States, the first colonized territory to have achieved independence, never became a colonial power itself.

Throughout the nineteenth century, the United States’ net foreign capital position was slightly negative: what US citizens owned in the rest of the world was less than what foreigners, mainly British, owned in the United States. The difference was quite small, however, at most 10–20 percent of the US national income, and generally less than 10 percent between 1770 and 1920.

For example, on the eve of World War I, US domestic capital—farmland, housing, other domestic capital—stood at 500 percent of national income. Of this total, the assets owned by foreign investors (minus foreign assets held by US investors) represented the equivalent of 10 percent of national income. The national capital, or net national wealth, of the United States was thus about 490 percent of national income. In other words, the United States was 98 percent US-owned and 2 percent foreign-owned. The net foreign asset position was close to balanced, especially when compared to the enormous foreign assets held by Europeans: between one and two years of national income in France and Britain and half a year in Germany. Since the GDP of the United States was barely more than half of the GDP of Western Europe in 1913, this also means that the Europeans of 1913 held only a small proportion of their foreign asset portfolios (less than 5 percent) in the United States. To sum up, the world of 1913 was one in which Europe owned a large part of Africa, Asia, and Latin America, while the United States owned itself.

With the two world wars, the net foreign asset position of the United States reversed itself: it was negative in 1913 but turned slightly positive in the 1920s and remained so into the 1970s and 1980s. The United States financed the belligerents and thus ceased to be a debtor of Europe and became a creditor. It bears emphasizing, however, that the United States’ net foreign assets holdings remained relatively modest: barely 10 percent of national income (see Figure 4.6).

In the 1950s and 1960s in particular, the net foreign capital held by the United States was still fairly limited (barely 5 percent of national income, whereas domestic capital was close to 400 percent, or 80 times greater). The investments of US multinational corporations in Europe and the rest of the world attained levels that seemed considerable at the time, especially to Europeans, who were accustomed to owning the world and who chafed at the idea of owing their reconstruction in part to Uncle Sam and the Marshall Plan. In fact, despite these national traumas, US investments in Europe would always be fairly limited compared to the investments the former colonial powers had held around the globe a few decades earlier. Furthermore, US investments in Europe and elsewhere were balanced by continued strong foreign investment in the United States, particularly by Britain. In the series Mad Men, which is set in the early 1960s, the New York advertising agency Sterling Cooper is bought out by distinguished British stockholders, which does not fail to cause a culture shock in the small world of Madison Avenue advertising: it is never easy to be owned by foreigners.

The net foreign capital position of the United States turned slightly negative in the 1980s and then increasingly negative in the 1990s and 2000s as a result of accumulating trade deficits. Nevertheless, US investments abroad continued to yield a far better return than the nation paid on its foreign-held debt—such is the privilege due to confidence in the dollar. This made it possible to limit the degradation of the negative US position, which amounted to roughly 10 percent of national income in the 1990s and slightly more than 20 percent in the early 2010s. All in all, the current situation is therefore fairly close to what obtained on the eve of World War I. The domestic capital of the United States is worth about 450 percent of national income. Of this total, assets held by foreign investors (minus foreign assets held by US investors) represent the equivalent of 20 percent of national income. The net national wealth of the United States is therefore about 430 percent of national income. In other words, the United States is more than 95 percent American owned and less than 5 percent foreign owned.

To sum up, the net foreign asset position of the United States has at times been slightly negative, at other times slightly positive, but these positions were always of relatively limited importance compared with the total stock of capital owned by US citizens (always less than 5 percent and generally less than 2 percent).

FIGURE 4.9. Capital in Canada, 1860–2010

In Canada, a substantial part of domestic capital has always been held by the rest of the world, so that national capital has always been less than domestic capital.

Sources and series: see piketty.pse.ens.fr/capital21c.

Canada: Long Owned by the Crown

It is interesting to observe that things took a very different course in Canada, where a very significant share of domestic capital—as much as a quarter in the late nineteenth and early twentieth century—was owned by foreign investors, mainly British, especially in the natural resources sector (copper, zinc, and aluminum mines as well as hydrocarbons). In 1910, Canada’s domestic capital was valued at 530 percent of national income. Of this total, assets owned by foreign investors (less foreign assets owned by Canadian investors) represented the equivalent of 120 percent of national income, somewhere between one-fifth and one-quarter of the total. Canada’s net national wealth was thus equal to about 410 percent of national income (see Figure 4.9).11

Two world wars changed this situation considerably, as Europeans were forced to sell many foreign assets. This took time, however: from 1950 to 1990, Canada’s net foreign debt represented roughly 10 percent of its domestic capital. Public debt rose toward the end of the period before being consolidated after 1990.12 Today, Canada’s situation is fairly close to that of the United States. Its domestic capital is worth roughly 410 percent of its national income. Of this total, assets owned by foreign investors (less foreign assets own by Canadian investors) represent less than 10 percent of national income. Canada is thus more than 98 percent Canadian owned and less than 2 percent foreign owned. (Note, however, that this view of net foreign capital masks the magnitude of cross-ownership between countries, about which I will say more in the next chapter.)

This comparison of the United States with Canada is interesting, because it is difficult to find purely economic reasons why these two North American trajectories should differ so profoundly. Clearly, political factors played a central role. Although the United States has always been quite open to foreign investment, it is fairly difficult to imagine that nineteenth-century US citizens would have tolerated a situation in which one-quarter of the country was owned by its former colonizer.13 This posed less of a problem in Canada, which remained a British colony: the fact that a large part of the country was owned by Britain was therefore not so different from the fact that Londoners owned much of the land and many of the factories in Scotland or Sussex. Similarly, the fact that Canada’s net foreign assets remained negative for so long is linked to the absence of any violent political rupture (Canada gradually gained independence from Britain, but its head of state remained the British monarch) and hence to the absence of expropriations of the kind that elsewhere in the world generally accompanied access to independence, especially in regard to natural resources.

New World and Old World: The Importance of Slavery

I cannot conclude this examination of the metamorphoses of capital in Europe and the United States without examining the issue of slavery and the place of slaves in US fortunes.

Thomas Jefferson owned more than just land. He also owned more than six hundred slaves, mostly inherited from his father and father-in-law, and his political attitude toward the slavery question was always extremely ambiguous. His ideal republic of small landowners enjoying equal rights did not include people of color, on whose forced labor the economy of his native Virginia largely depended. After becoming president of the United States in 1801 thanks to the votes of the southern states, he nevertheless signed a law ending the import of new slaves to US soil after 1808. This did not prevent a sharp increase in the number of slaves (natural increase was less costly than buying new slaves), which rose from around 400,000 in the 1770s to 1 million in the 1800 census. The number more than quadrupled again between 1800 and the census of 1860, which counted more than 4 million slaves: in other words, the number of slaves had increased tenfold in less than a century. The slave economy was growing rapidly when the Civil War broke out in 1861, leading ultimately to the abolition of slavery in 1865.

In 1800, slaves represented nearly 20 percent of the population of the United States: roughly 1 million slaves out of a total population of 5 million. In the South, where nearly all of the slaves were held,14 the proportion reached 40 percent: 1 million slaves and 1.5 million whites for a total population of 2.5 million. Not all whites owned slaves, and only a tiny minority owned as many as Jefferson: fortunes based on slavery were among the most concentrated of all.

By 1860, the proportion of slaves in the overall population of the United States had fallen to around 15 percent (about 4 million slaves in a total population of 30 million), owing to rapid population growth in the North and West. In the South, however, the proportion remained at 40 percent: 4 million slaves and 6 million whites for a total population of 10 million.

We can draw on any number of historical sources to learn about the price of slaves in the United States between 1770 and 1865. These include probate records assembled by Alice Hanson Jones, tax and census data used by Raymond Goldsmith, and data on slave market transactions collected primarily by Robert Fogel. By comparing these various sources, which are quite consistent with one another, I compiled the estimates shown in Figures 4.10 and 4.11.

What one finds is that the total market value of slaves represented nearly a year and a half of US national income in the late eighteenth century and the first half of the nineteenth century, which is roughly equal to the total value of farmland. If we include slaves along with other components of wealth, we find that total American wealth has remained relatively stable from the colonial era to the present, at around four and a half years of national income (see Figure 4.10). To add the value of slaves to capital in this way is obviously a dubious thing to do in more ways than one: it is the mark of a civilization in which some people were treated as chattel rather than as individuals endowed with rights, including in particular the right to own property.15 But it does allow us to measure the importance of slave capital for slave owners.

FIGURE 4.10. Capital and slavery in the United States

The market value of slaves was about 1.5 years of US national income around 1770 (as much as land).

Sources and series: see piketty.pse.ens.fr/capital21c.

This emerges even more clearly when we distinguish southern from northern states and compare the capital structure in the two regions (slaves included) in the period 1770–1810 with the capital structure in Britain and France in the same period (Figure 4.11). In the American South, the total value of slaves ranged between two and a half and three years of national income, so that the combined value of farmland and slaves exceeded four years of national income. All told, southern slave owners in the New World controlled more wealth than the landlords of old Europe. Their farmland was not worth very much, but since they had the bright idea of owning not just the land but also the labor force needed to work that land, their total capital was even greater.

If one adds the market value of slaves to other components of wealth, the value of southern capital exceeds six years of the southern states’ income, or nearly as much as the total value of capital in Britain and France. Conversely, in the North, where there were virtually no slaves, total wealth was indeed quite small: barely three years of the northern states’ income, half as much as in the south or Europe.

FIGURE 4.11. Capital around 1770–1810: Old and New World

The combined value of agricultural land and slaves in the Southern United States surpassed four years of national income around 1770–1810.

Sources and series: see piketty.pse.ens.fr/capital21c.

Clearly, the antebellum United States was far from the country without capital discussed earlier. In fact, the New World combined two diametrically opposed realities. In the North we find a relatively egalitarian society in which capital was indeed not worth very much, because land was so abundant that anyone could became a landowner relatively cheaply, and also because recent immigrants had not had time to accumulate much capital. In the South we find a world where inequalities of ownership took the most extreme and violent form possible, since one half of the population owned the other half: here, slave capital largely supplanted and surpassed landed capital.

This complex and contradictory relation to inequality largely persists in the United States to this day: on the one hand this is a country of egalitarian promise, a land of opportunity for millions of immigrants of modest background; on the other it is a land of extremely brutal inequality, especially in relation to race, whose effects are still quite visible. (Southern blacks were deprived of civil rights until the 1960s and subjected to a regime of legal segregation that shared some features in common with the system of apartheid that was maintained in South Africa until the 1980s.) This no doubt accounts for many aspects of the development—or rather nondevelopment—of the US welfare state.

Slave Capital and Human Capital

I have not tried to estimate the value of slave capital in other slave societies. In the British Empire, slavery was abolished in 1833–1838. In the French Empire it was abolished in two stages (first abolished in 1792, restored by Napoleon in 1803, abolished definitively in 1848). In both empires, in the eighteenth and early nineteenth centuries a portion of foreign capital was invested in plantations in the West Indies (think of Sir Thomas in Mansfield Park) or in slave estates on islands in the Indian Ocean (the Ile Bourbon and Ile de France, which became Réunion and Mauritius after the French Revolution). Among the assets of these plantations were slaves, whose value I have not attempted to calculate separately. Since total foreign assets did not exceed 10 percent of national income in these two countries at the beginning of the nineteenth century, the share of slaves in total wealth was obviously smaller than in the United States.16

Conversely, in societies where slaves represent a large share of the population, their market value can easily reach very high levels, potentially even higher than it did in the United States in 1770–1810 and greater than the value of all other forms of wealth. Take an extreme case in which virtually an entire population is owned by a tiny minority. Assume for the sake of argument that the income from labor (that is, the yield to slave owners on the labor of their slaves) represents 60 percent of national income, the income on capital (meaning the return on land and other capital in the form of rents, profits, etc.) represents 40 percent of national income, and the return on all forms of nonhuman capital is 5 percent a year.

By definition, the value of national capital (excluding slaves) is equal to eight years of national income: this is the first fundamental law of capitalism (β = α / r), introduced in Chapter 1.

In a slave society, we can apply the same law to slave capital: if slaves yield the equivalent of 60 percent of national income, and the return on all forms of capital is 5 percent a year, then the market value of the total stock of slaves is equal to twelve years of national income—or half again more than national nonhuman capital, simply because slaves yield half again as much as nonhuman capital. If we add the value of slaves to the value of capital, we of course obtain twenty years of national income, since the total annual flow of income and output is capitalized at a rate of 5 percent.

In the case of the United States in the period 1770–1810, the value of slave capital was on the order of one and a half years of national income (and not twelve years), in part because the proportion of slaves in the population was 20 percent (and not 100 percent) and in part because the average productivity of slaves was slightly below the average productivity of free labor and the rate of return on slave capital was generally closer to 7 or 8 percent, or even higher, than it was to 5 percent, leading to a lower capitalization. In practice, in the antebellum United States, the market price of a slave was typically on the order of ten to twelve years of an equivalent free worker’s wages (and not twenty years, as equal productivity and a return of 5 percent would require). In 1860, the average price of a male slave of prime working age was roughly $2,000, whereas the average wage of a free farm laborer was on the order of $200.17 Note, however, that the price of a slave varied widely depending on various characteristics and on the owner’s evaluation; for example, the wealthy planter Quentin Tarantino portrays in Django Unchained is prepared to sell beautiful Broomhilda for only $700 but wants $12,000 for his best fighting slaves.

In any case, it is clear that this type of calculation makes sense only in a slave society, where human capital can be sold on the market, permanently and irrevocably. Some economists, including the authors of a recent series of World Bank reports on “the wealth of nations,” choose to calculate the total value of “human capital” by capitalizing the value of the income flow from labor on the basis of a more or less arbitrary annual rate of return (typically 4–5 percent). These reports conclude with amazement that human capital is the leading form of capital in the enchanted world of the twenty-first century. In reality, this conclusion is perfectly obvious and would also have been true in the eighteenth century: whenever more than half of national income goes to labor and one chooses to capitalize the flow of labor income at the same or nearly the same rate as the flow of income to capital, then by definition the value of human capital is greater than the value of all other forms of capital. There is no need for amazement and no need to resort to a hypothetical capitalization to reach this conclusion. (It is enough to compare the flows.).18 Attributing a monetary value to the stock of human capital makes sense only in societies where it is actually possible to own other individuals fully and entirely—societies that at first sight have definitively ceased to exist.

{FIVE}

The Capital/Income Ratio over the Long Run

In the previous chapter I examined the metamorphoses of capital in Europe and North America since the eighteenth century. Over the long run, the nature of wealth was totally transformed: capital in the form of agricultural land was gradually replaced by industrial and financial capital and urban real estate. Yet the most striking fact was surely that in spite of these transformations, the total value of the capital stock, measured in years of national income—the ratio that measures the overall importance of capital in the economy and society—appears not to have changed very much over a very long period of time. In Britain and France, the countries for which we possess the most complete historical data, national capital today represents about five or six years of national income, which is just slightly less than the level of wealth observed in the eighteenth and nineteenth centuries and right up to the eve of World War I (about six or seven years of national income). Given the strong, steady increase of the capital/income ratio since the 1950s, moreover, it is natural to ask whether this increase will continue in the decades to come and whether the capital/income ratio will regain or even surpass past levels before the end of the twenty-first century.

The second salient fact concerns the comparison between Europe and the United States. Unsurprisingly, the shocks of the 1914–1945 period affected Europe much more strongly, so that the capital/income ratio was lower there from the 1920s into the 1980s. If we except this lengthy period of war and its aftermath, however, we find that the capital/income ratio has always tended to be higher in Europe. This was true in the nineteenth and early twentieth centuries (when the capital/income ratio was 6 to 7 in Europe compared with 4 to 5 in the United States) and again in the late twentieth and early twenty-first centuries: private wealth in Europe again surpassed US levels in the early 1990s, and the capital/income ratio there is close to 6 today, compared with slightly more than 4 in the United States (see Figures 5.1 and 5.2).1

FIGURE 5.1. Private and public capital: Europe and America, 1870–2010

The fluctuations of national capital in the long run correspond mostly to the fluctuations of private capital (both in Europe and in the United States).

Sources and series: see piketty.pse.ens.fr/capital21c.

FIGURE 5.2. National capital in Europe and America, 1870–2010

National capital (public and private) is worth 6.5 years of national income in Europe in 1910, versus 4.5 years in America.

Sources and series: see piketty.pse.ens.fr/capital21c.

These facts remain to be explained. Why did the capital/income ratio return to historical highs in Europe, and why should it be structurally higher in Europe than in the United States? What magical forces imply that capital in one society should be worth six or seven years of national income rather than three or four? Is there an equilibrium level for the capital/income ratio, and if so how is it determined, what are the consequences for the rate of return on capital, and what is the relation between it and the capital-labor split of national income? To answer these questions, I will begin by presenting the dynamic law that allows us to relate the capital/income ratio in an economy to its savings and growth rates.

The Second Fundamental Law of Capitalism: β = s / g

In the long run, the capital/income ratio β is related in a simple and transparent way to the savings rate s and the growth rate g according to the following formula:

β = s / g

For example, if s = 12% and g = 2%, then β = s / g = 600%.2

In other words, if a country saves 12 percent of its national income every year, and the rate of growth of its national income is 2 percent per year, then in the long run the capital/income ratio will be equal to 600 percent: the country will have accumulated capital worth six years of national income.

This formula, which can be regarded as the second fundamental law of capitalism, reflects an obvious but important point: a country that saves a lot and grows slowly will over the long run accumulate an enormous stock of capital (relative to its income), which can in turn have a significant effect on the social structure and distribution of wealth.

Let me put it another way: in a quasi-stagnant society, wealth accumulated in the past will inevitably acquire disproportionate importance.

The return to a structurally high capital/income ratio in the twenty-first century, close to the levels observed in the eighteenth and nineteenth centuries, can therefore be explained by the return to a slow-growth regime. Decreased growth—especially demographic growth—is thus responsible for capital’s comeback.

The basic point is that small variations in the rate of growth can have very large effects on the capital/income ratio over the long run.

For example, given a savings rate of 12 percent, if the rate of growth falls to 1.5 percent a year (instead of 2 percent), then the long-term capital/income ratio β = s / g will rise to eight years of national income (instead of six). If the growth rate falls to 1 percent, then β = s / g will rise to twelve years, indicative of a society twice as capital intensive as when the growth rate was 2 percent. In one respect, this is good news: capital is potentially useful to everyone, and provided that things are properly organized, everyone can benefit from it. In another respect, however, what this means is that the owners of capital—for a given distribution of wealth—potentially control a larger share of total economic resources. In any event, the economic, social, and political repercussions of such a change are considerable.

On the other hand if the growth rate increases to 3 percent, then β = s / g will fall to just four years of national income. If the savings rate simultaneously decreases slightly to s = 9 percent, then the long-run capital/income ratio will decline to 3.

These effects are all the more significant because the growth rate that figures in the law β = s / g is the overall rate of growth of national income, that is, the sum of the per capita growth rate and the population growth rate.3 In other words, for a savings rate on the order of 10–12 percent and a growth rate of national income per capita on the order of 1.5–2 percent a year, it follows immediately that a country that has near-zero demographic growth and therefore a total growth rate close to 1.5–2 percent, as in Europe, can expect to accumulate a capital stock worth six to eight years of national income, whereas a country with demographic growth on the order of 1 percent a year and therefore a total growth rate of 2.5–3 percent, as in the United States, will accumulate a capital stock worth only three to four years of national income. And if the latter country tends to save a little less than the former, perhaps because its population is not aging as rapidly, this mechanism will be further reinforced as a result. In other words, countries with similar growth rates of income per capita can end up with very different capital/income ratios simply because their demographic growth rates are not the same.

This law allows us to give a good account of the historical evolution of the capital/income ratio. In particular, it enables us to explain why the capital/income ratio seems now—after the shocks of 1914–1945 and the exceptionally rapid growth phase of the second half of the twentieth century—to be returning to very high levels. It also enables us to understand why Europe tends for structural reasons to accumulate more capital than the United States (or at any rate will tend to do so as long as the US demographic growth rate remains higher than the European, which probably will not be forever). But before I can explain this phenomenon, I must make several conceptual and theoretical points more precise.

A Long-Term Law

First, it is important to be clear that the second fundamental law of capitalism, β = s / g, is applicable only if certain crucial assumptions are satisfied. First, this is an asymptotic law, meaning that it is valid only in the long run: if a country saves a proportion s of its income indefinitely, and if the rate of growth of its national income is g permanently, then its capital/income ratio will tend closer and closer to β = s / g and stabilize at that level. This won’t happen in a day, however: if a country saves a proportion s of its income for only a few years, it will not be enough to achieve a capital/income ratio of β = s / g.

For example, if a country starts with zero capital and saves 12 percent of its national income for a year, it obviously will not accumulate a capital stock worth six years of its income. With a savings rate of 12 percent a year, starting from zero capital, it will take fifty years to save the equivalent of six years of income, and even then the capital/income ratio will not be equal to 6, because national income will itself have increased considerably after half a century (unless we assume that the growth rate is actually zero).

The first principle to bear in mind is, therefore, that the accumulation of wealth takes time: it will take several decades for the law β = s / g to become true. Now we can understand why it took so much time for the shocks of 1914–1945 to fade away, and why it is so important to take a very long historical view when studying these questions. At the individual level, fortunes are sometimes amassed very quickly, but at the country level, the movement of the capital/income ratio described by the law β = s / g is a long-run phenomenon.

Hence there is a crucial difference between this law and the law α = r × β, which I called the first fundamental law of capitalism in Chapter 1. According to that law, the share of capital income in national income, α, is equal to the average rate of return on capital, r, times the capital/income ratio, β. It is important to realize that the law α = r × β is actually a pure accounting identity, valid at all times in all places, by construction. Indeed, one can view it as a definition of the share of capital in national income (or of the rate of return on capital, depending on which parameter is easiest to measure) rather than as a law. By contrast, the law β = s / g is the result of a dynamic process: it represents a state of equilibrium toward which an economy will tend if the savings rate is s and the growth rate g, but that equilibrium state is never perfectly realized in practice.

Second, the law β = s / g is valid only if one focuses on those forms of capital that human beings can accumulate. If a significant fraction of national capital consists of pure natural resources (i.e., natural resources whose value is independent of any human improvement and any past investment), then β can be quite high without any contribution from savings. I will say more later about the practical importance of nonaccumulable capital.

Finally, the law β = s / g is valid only if asset prices evolve on average in the same way as consumer prices. If the price of real estate or stocks rises faster than other prices, then the ratio β between the market value of national capital and the annual flow of national income can again be quite high without the addition of any new savings. In the short run, variations (capital gains or losses) of relative asset prices (i.e., of asset prices relative to consumer prices) are often quite a bit larger than volume effects (i.e., effects linked to new savings). If we assume, however, that price variations balance out over the long run, then the law β = s / g is necessarily valid, regardless of the reasons why the country in question chooses to save a proportion s of its national income.

This point bears emphasizing: the law β = s / g is totally independent of the reasons why the residents of a particular country—or their government—accumulate wealth. In practice, people accumulate capital for all sorts of reasons: for instance, to increase future consumption (or to avoid a decrease in consumption after retirement), or to amass or preserve wealth for the next generation, or again to acquire the power, security, or prestige that often come with wealth. In general, all these motivations are present at once in proportions that vary with the individual, the country, and the age. Quite often, all these motivations are combined in single individuals, and individuals themselves may not always be able to articulate them clearly. In Part Three I discuss in depth the significant implications of these various motivations and mechanisms of accumulation for inequality and the distribution of wealth, the role of inheritance in the structure of inequality, and, more generally, the social, moral, and political justification of disparities in wealth. At this stage I am simply explaining the dynamics of the capital/income ratio (a question that can be studied, at least initially, independently of the question of how wealth is distributed). The point I want to stress is that the law β = s / g applies in all cases, regardless of the exact reasons for a country’s savings rate.

This is due to the simple fact that β = s / g is the only stable capital/income ratio in a country that saves a fraction s of its income, which grows at a rate g.

The argument is elementary. Let me illustrate it with an example. In concrete terms: if a country is saving 12 percent of its income every year, and if its initial capital stock is equal to six years of income, then the capital stock will grow at 2 percent a year,4 thus at exactly the same rate as national income, so that the capital/income ratio will remain stable.

By contrast, if the capital stock is less than six years of income, then a savings rate of 12 percent will cause the capital stock to grow at a rate greater than 2 percent a year and therefore faster than income, so that the capital/income ratio will increase until it attains its equilibrium level.

Conversely, if the capital stock is greater than six years of annual income, then a savings rate of 12 percent implies that capital is growing at less than 2 percent a year, so that the capital/income ratio cannot be maintained at that level and will therefore decrease until it reaches equilibrium.

In each case, the capital/income ratio tends over the long run toward its equilibrium level β = s / g (possibly augmented by pure natural resources), provided that the average price of assets evolves at the same rate as consumption prices over the long run.5

To sum up: the law β = s / g does not explain the short-term shocks to which the capital/income ratio is subject, any more than it explains the existence of world wars or the crisis of 1929—events that can be taken as examples of extreme shocks—but it does allow us to understand the potential equilibrium level toward which the capital/income ratio tends in the long run, when the effects of shocks and crises have dissipated.

Capital’s Comeback in Rich Countries since the 1970s

In order to illustrate the difference between short-term and long-term movements of the capital/income ratio, it is useful to examine the annual changes observed in the wealthiest countries between 1970 and 2010, a period for which we have reliable and homogeneous data for a large number of countries. To begin, here is a look at the ratio of private capital to national income, whose evolution is shown in Figure 5.3 for the eight richest countries in the world, in order of decreasing GDP: the United States, Japan, Germany, France, Britain, Italy, Canada, and Australia.

FIGURE 5.3. Private capital in rich countries, 1970–2010

Private capital is worth between two and 3.5 years of national income in rich countries in 1970, and between four and seven years of national income in 2010.

Sources and series: see piketty.pse.ens.fr/capital21c.

Compared with Figures 5.1 and 5.2, as well as with the figures that accompanied previous chapters, which presented decennial averages in order to focus attention on long-term trends, Figure 5.3 displays annual series and shows that the capital/income ratio in all countries varied constantly in the very short run. These erratic changes are due to the fact that the prices of real estate (including housing and business real estate) and financial assets (especially shares of stock) are notoriously volatile. It is always very difficult to set a price on capital, in part because it is objectively complex to foresee the future demand for the goods and services generated by a firm or by real estate and therefore to predict the future flows of profit, dividends, royalties, rents, and so on that the assets in question will yield, and in part because the present value of a building or corporation depends not only on these fundamental factors but also on the price at which one can hope to sell these assets if the need arises (that is, on the anticipated capital gain or loss).

Indeed, these anticipated future prices themselves depend on the general enthusiasm for a given type of asset, which can give rise to so-called self-fulfilling beliefs: as long as one can hope to sell an asset for more than one paid for it, it may be individually rational to pay a good deal more than the fundamental value of that asset (especially since the fundamental value is itself uncertain), thus giving in to the general enthusiasm for that type of asset, even though it may be excessive. That is why speculative bubbles in real estate and stocks have existed as long as capital itself; they are consubstantial with its history.

As it happens, the most spectacular bubble in the period 1970–2010 was surely the Japanese bubble of 1990 (see Figure 5.3). During the 1980s, the value of private wealth shot up in Japan from slightly more than four years of national income at the beginning of the decade to nearly seven at the end. Clearly, this enormous and extremely rapid increase was partly artificial: the value of private capital fell sharply in the early 1990s before stabilizing at around six years of national income from the mid-1990s on.

I will not rehearse the history of the numerous real estate and stock market bubbles that inflated and burst in the rich countries after 1970, nor will I attempt to predict future bubbles, which I am quite incapable of doing in any case. Note, however, the sharp correction in the Italian real estate market in 1994–1995 and the bursting of the Internet bubble in 2000–2001, which caused a particularly sharp drop in the capital/income ratio in the United States and Britain (though not as sharp as the drop in Japan ten years earlier). Note, too, that the subsequent US real estate and stock market boom continued until 2007, followed by a deep drop in the recession of 2008–2009. In two years, US private fortunes shrank from five to four years of national income, a drop of roughly the same size as the Japanese correction of 1991–1992. In other countries, and particularly in Europe, the correction was less severe or even nonexistent: in Britain, France, and Italy, the price of assets, especially in real estate, briefly stabilized in 2008 before starting upward again in 2009–2010, so that by the early 2010s private wealth had returned to the level attained in 2007, if not slightly higher.

The important point I want to emphasize is that beyond these erratic and unpredictable variations in short-term asset prices, variations whose amplitude seems to have increased in recent decades (and we will see later that this can be related to the increase in the potential capital/income ratio), there is indeed a long-term trend at work in all of the rich countries in the period 1970–2010 (see Figure 5.3). At the beginning of the 1970s, the total value of private wealth (net of debt) stood between two and three and a half years of national income in all the rich countries, on all continents.6 Forty years later, in 2010, private wealth represented between four and seven years of national income in all the countries under study.7 The general evolution is clear: bubbles aside, what we are witnessing is a strong comeback of private capital in the rich countries since 1970, or, to put it another way, the emergence of a new patrimonial capitalism.

This structural evolution is explained by three sets of factors, which complement and reinforce one another to give the phenomenon a very significant amplitude. The most important factor in the long run is slower growth, especially demographic growth, which, together with a high rate of saving, automatically gives rise to a structural increase in the long-run capital/income ratio, owing to the law β = s / g. This mechanism is the dominant force in the very long run but should not be allowed to obscure the two other factors that have substantially reinforced its effects over the last few decades: first, the gradual privatization and transfer of public wealth into private hands in the 1970s and 1980s, and second, a long-term catch-up phenomenon affecting real estate and stock market prices, which also accelerated in the 1980s and 1990s in a political context that was on the whole more favorable to private wealth than that of the immediate postwar decades.

Beyond Bubbles: Low Growth, High Saving

I begin with the first mechanism, based on slower growth coupled with continued high saving and the dynamic law β = s / g. In Table 5.1 I have indicated the average values of the growth rates and private savings rates in the eight richest countries during the period 1970–2010. As noted in Chapter 2, the rate of growth of per capita national income (or the virtually identical growth rate of per capita domestic product) has been quite similar in all the developed countries over the last few decades. If comparisons are made over periods of a few years, the differences can be significant, and these often spur national pride or jealousy. But if one takes averages over longer periods, the fact is that all the rich countries are growing at approximately the same rate. Between 1970 and 2010, the average annual rate of growth of per capita national income ranged from 1.6 to 2.0 percent in the eight most developed countries and more often than not remained between 1.7 and 1.9 percent. Given the imperfections of the available statistical measures (especially price indices), it is by no means certain that such small differences are statistically significant.8

In any case, these differences are very small compared with differences in the demographic growth rate. In the period 1970–2010, population grew at less than 0.5 percent per year in Europe and Japan (and closer to 0 percent in the period 1990–2010, or in Japan even at a negative rate), compared with 1.0–1.5 percent in the United States, Canada, and Australia (see Table 5.1). Hence the overall growth rate for the period 1970–2010 was significantly higher in the United States and the other new countries than in Europe or Japan: around 3 percent a year in the former (or perhaps even a bit more), compared with barely 2 percent in the latter (or even just barely 1.5 percent in the most recent subperiod). Such differences may seem small, but over the long run they mount up, so that in fact they are quite significant. The new point I want to stress here is that such differences in growth rates have enormous effects on the long-run accumulation of capital and largely explain why the capital/income ratio is structurally higher in Europe and Japan than in the United States.

Turning now to average savings rates in the period 1970–2010, again one finds large variations between countries: the private savings rate generally ranges between 10 and 12 percent of national income, but it is as low as 7 to 8 percent in the United States and Britain and as high as 14–15 percent in Japan and Italy (see Table 5.1). Over forty years, these differences mount up to create significant variation. Note, too, that the countries that save the most are often those whose population is stagnant and aging (which may justify saving for the purpose of retirement and bequest), but the relation is far from systematic. As noted, there are many reasons why one might choose to save more or less, and it comes as no surprise that many factors (linked to, among other things, culture, perceptions of the future, and distinctive national histories) come into play, just as they do in regard to decisions concerning childbearing and immigration, which ultimately help to determine the demographic growth rate.

If one now combines variations in growth rates with variations in savings rate, it is easy to explain why different countries accumulate very different quantities of capital, and why the capital/income ratio has risen sharply since 1970. One particularly clear case is that of Japan: with a savings rate close to 15 percent a year and a growth rate barely above 2 percent, it is hardly surprising that Japan has over the long run accumulated a capital stock worth six to seven years of national income. This is an automatic consequence of the dynamic law of accumulation, β = s / g. Similarly, it is not surprising that the United States, which saves much less than Japan and is growing faster, has a significantly lower capital/income ratio.

More generally, if one compares the level of private wealth in 2010 predicted by the savings flows observed between 1970 and 2010 (together with the initial wealth observed in 1970) with the actual observed levels of wealth in 2010, one finds that the two numbers are quite similar for most countries.9 The correspondence is not perfect, which shows that other factors also play a significant role. For instance, in the British case, the flow of savings seems quite inadequate to explain the very steep rise in private wealth in this period.

Looking beyond the particular circumstances of this or that country, however, the results are overall quite consistent: it is possible to explain the main features of private capital accumulation in the rich countries between 1970 and 2010 in terms of the quantity of savings between those two dates (along with the initial capital endowment) without assuming a significant structural increase in the relative price of assets. In other words, movements in real estate and stock market prices always dominate in the short and even medium run but tend to balance out over the long run, where volume effects appear generally to be decisive.

Once again, the Japanese case is emblematic. If one tries to understand the enormous increase in the capital/income ratio in the 1980s and the sharp drop in the early 1990s, it is clear that the dominant phenomenon was the formation of a bubble in real estate and stocks, which then collapsed. But if one seeks to understand the evolution observed over the entire period 1970–2010, it is clear that volume effects outweighed price effects: the fact that private wealth in Japan rose from three years of national income in 1970 to six in 2010 is predicted almost perfectly by the flow of savings.10

The Two Components of Private Saving

For the sake of completeness, I should make clear that private saving consists of two components: savings made directly by private individuals (this is the part of disposable household income that is not consumed immediately) and savings by firms on behalf of the private individuals who own them, directly in the case of individual firms or indirectly via their financial investments. This second component consists of profits reinvested by firms (also referred to as “retained earnings”) and in some countries accounts for as much as half the total amount of private savings (see Table 5.2).

If one were to ignore this second component of savings and consider only household savings strictly defined, one would conclude that savings flows in all countries are clearly insufficient to account for the growth of private wealth, which one would then explain largely in terms of a structural increase in the relative price of assets, especially shares of stock. Such a conclusion would be correct in accounting terms but artificial in economic terms: it is true that stock prices tend to rise more quickly than consumption prices over the long run, but the reason for this is essentially that retained earnings allow firms to increase their size and capital (so that we are looking at a volume effect rather than a price effect). If retained earnings are included in private savings, however, the price effect largely disappears.

In practice, from the standpoint of shareholders, profits paid out directly as dividends are often more heavily taxed than retained earnings: hence it may be advantageous for the owners of capital to pay only a limited share of profits as dividends (to meet their immediate consumption needs) and leave the rest to accumulate and be reinvested in the firm and its subsidiaries. Later, some shares can be sold in order to realize the capital gains (which are generally taxed less heavily than dividends).11 The variation between countries with respect to the proportion of retained earnings in total private savings can be explained, moreover, largely by differences in legal and tax systems; these are accounting differences rather than actual economic differences. Under these conditions, it is better to treat retained earnings as savings realized on behalf of the firm’s owners and therefore as a component of private saving.

I should also be clear that the notion of savings relevant to the dynamic law β = s / g is savings net of capital depreciation, that is, truly new savings, or the part of total savings left over after we deduct the amount needed to compensate for wear and tear on buildings and equipment (to repair a hole in the roof or a pipe or to replace a worn-out automobile, computer, machine, or what have you). The difference is important, because annual capital depreciation in the developed economies is on the order of 10–15 percent of national income and absorbs nearly half of total savings, which generally run around 25–30 percent of national income, leaving net savings of 10–15 percent of national income (see Table 5.3). In particular, the bulk of retained earnings often goes to maintaining buildings and equipment, and frequently the amount left over to finance net investment is quite small—at most a few percent of national income—or even negative, if retained earnings are insufficient to cover the depreciation of capital. By definition, only net savings can increase the capital stock: savings used to cover depreciation simply ensure that the existing capital stock will not decrease.12