The Piketty moment

Piketty's book , 'Le Capital au XXI siècle" has become a reference point in the current economic debate. It has revived the issue of economic inequality and brought it into the policy agenda. But no book has been so divisive among economists. 

The main point of the book is that governments should put in place a progressive wealth tax for the purpose of income redistribution and correct growing inequalities. In other words the rich should pay more so that the poor (or the impoverished middle class) could get more disposable income and spend more in goods and services. The consequence of inaction would be a return to the situation which prevailed in the early 19th century where the big fortunes concentrated most of total wealth. This happens, according to Piketty when the rate of return of capital is durably higher than the rate of growth of an economy creating a situation of disequilibrium which aggravates economic disparities. As heredity of capital becomes more important relative to labour, the big fortunes continue to grow almost mechanically while the wealth of the middle class tends to erode. To avoid this perverse mechanism, our societies has social institutions which aim to reduce such inequality but today these institutions are becoming more fragile and less capable to respond to such challenge. 

In our societies hardly hit by the crisis, rising inequality threatens the values of social justice which are at the heart of democracy. In past years, a neo-liberal discourse has prevailed, putting aside the issue of inequality and focusing on growth, which is good per se and in theory should benefit to all. The evidence shows that this is not true since not all or even a small fraction of the population actually benefits from growth. Orthodox economic policies based on sustained deficit reduction  led to a prolonged recession which has even widened the economic inequalities within societies, with the poor becoming poorer and the rich becoming richer. 

European governments, in particular France and Germany, have showed inaction to combat the crisis and its consequences in terms of social disruption. Is it a folly to argue that there are alternatives to current economic policies and that we should wait for the return to growth. History tells us that austerity does not contribute to  debt reduction bit in turn plunges the economy in a recessive or prolonged low growth cycle. The return to nationalism becomes the expression of the anger of the population which feels threatened by markets and globalization. 

Since the main inequality is unemployment which affects primarily the young, it is necessary to abandon austerity policies and pursue pro-growth policies. But they have to be coordinated at the European level which implies a stronger integration between economic policies and institutions. If we want to pursue progressive economic and social policies, we need to rebuild EU institutions around the euro area to make economic decisions more effective. 

Another source of inequality is on taxation: big multinational companies pay less taxes than the small and medium ones. This requires better coordination of tax policies along with the introduction a wealth tax as proposed by T.Piketty. It is obvious that such measures have to be taken at the supranational level with permanent exchange of information between States to avoid fraud and capital relocation for fiscal reasons. 

Furthermore, there is not enough investment into education, which increases the disparities in access to culture. the rich can afford expensive schools and universities making the education gap with the poor wider. In some counties, in particular in Italy, the amount of interests on debt represent 6-7% of the GDP while expenditure for university is less than 1%. This means compromising the well being of future generations with widening gaps in education and culture. 

While there may be an issue of high debt and States have less and less resources, it is also evident that collectively European economies have never been so rich in terms of  economic output. But private wealth has often become much larger ( in Italy the ratio is one to 7) than public wealth as a share of the GDP. If part of this wealth can be used to reduce inequality, this will also be a powerful engine for more growth as it will stimulate demand and reduce the appetite for financial investments. 

This is a matter of political choice and democracy. It is a pure illusion to think that a market economy can work without polity and ethics, rules and institutions. 

Hope for Europe

There are tangible signs of change concerning the future of Europe. Let's take here three important facts.   

In his address to the European parliament on November 25,  Pope Francis called for a united Europe. His main argument was human dignity as a central value for the rebuilding of Europe. This is an extract from his speech: 

Promoting the dignity of the person means recognizing that he or she possesses inalienable rights which no one may take away arbitrarily, much less for the sake of economic interests.

At the same time, however, care must be taken not to fall into certain errors which can arise from a misunderstanding of the concept of human rights and from its misuse. Today there is a tendency to claim ever broader individual rights – I am tempted to say individualistic; underlying this is a conception of the human person as detached from all social and anthropological contexts, as if the person were a “monad” (μονάς), increasingly unconcerned with other surrounding “monads”. The equally essential and complementary concept of duty no longer seems to be linked to such a concept of rights. As a result, the rights of the individual are upheld, without regard for the fact that each human being is part of a social context wherein his or her rights and duties are bound up with those of others and with the common good of society itself.

The second message is delivered by Mario Draghi in a speech at the University of Helsinki. He said (perhaps more openly than before) that Europe has to guarantee the sovereign debt of all States. The reference is clearly for Greece in case of victory of Szyriza at the forthcoming elections. The danger of a unilateral decision of withdrawal from the euro area would put at risk the whole monetary union. But Greece could stay if Europe holds  responsibility for the Greek debt for 50 years (as asked by Tsipras), which  is relatively small compared to Italy or Spain. This explains why Draghi has urged for further economic and fiscal integration while continuing his plan of massive purchase of private bonds. 

Last but not least, the president of the European Commission, Jean Claude Juncker has proposed the European Parliament a 3 year investment plan of € 315 billion starting from Autumn 2015. However, this amount is allocated to a specific Fund which includes so far €21 billion. But this initiative is different from previous ones as regards the modalities through which it will be made up. The Fund will be topped up by contributions from member States (including from non-EU States and other international funds) with a larger participation from richer EU States. In fact this is a step toward a genuine EU budget to issue guarantees for sovereign debts (to which Draghi referred to in recent declarations). 

Member States will contribute - up to at least € 200 billion in exchange of the possibility of making investments - outside the parameters of the Stability Pact- which should create new jobs and income in order to stimulate global demand, and generate new tax revenues and therefore save some financial resources for further investment.

As the economic scenario deteriorates in Europe, it would be difficult for member States to reject the Juncker Plan. There is no alternative than an EU wide plan for growth and jobs. 

The combination of these three messages provides some hopes for the future of Europe. In times of crisis and rise of populism, we need to mobilize all  our forces to act for the common good. 

Jürgen Habermas: Democracy in Europe

Productivity is Key to Recovery

Policy makers seem to be short of ideas to get out of the crisis. The mantra of austerity has prevailed over the last four years. Now it is the time of reforms. But which reforms? The focus is put on labour market flexibility. We know that this is a false problem. Even  countries with high flexibility of the labour force like the US or the UK have undergone a severe crisis.  

Recently, the ECB governor, Mario Draghi made an important speech at the Brookings Institution. He said in his introduction that he re-read the open letter from John Maynard Keynes to President Roosevelt published in the New York Times on 16 December 1933. Why is it an important letter? Well, Keynes acknowledged the efforts of Pdt Roosevelt was in his view the only one to have understood the sense of  urgency for a profound change.  But he raised some criticisms on the Us programme arguing that not enough was done to boost recovery. The point about Keynes' letter is that he stressed the primacy of recovery to reform.  

Draghi's speech contains an agenda on how to exit the crisis, but unlike Keynes's point, he insists on reforms first before the need for fiscal space for supporting investment. This is arguable , but understandable in the European context.

However, there are two important points in his speech. First, he explains that a self sustaining recovery requires some prior conditions to be in place. First and foremost, new jobs have to be created by rising productivity of the business system, training of young people and support to maintain  social equity hardly hit by the austerity policies. 

The second point is that the ECB will continue providing liquidity support to the real economy, but this is insufficient for recovery. If productivity does not increase in businesses the liquidity will remain in the banks, funds or households; output will not rise, nor investment or consumption. This explains why in certain countries (for example in Italy) tax reductions for low income people have not  resulted in increases in consumption. 

In Draghi's words,  there will be no recovery if some conditions are not in place, namely, if we don't have both a rising workforce and rising productivity. But "for many European countries, there is scope to increase labour participation rates over time. But given demographic trends, raising structural growth will have to take place primarily through productivity"

Social cohesion is not antinomic to growth. However, it does not mean freezing the production structures to maintain employment. It implies change, that is through innovation and technical progress to generate productivity gains. 

The message is clear, but we must not forget Keynes' wisdom which proved to be right.

CUNY TV Special: Senator Elizabeth Warren and Paul Krugman in Conversation

Europe's real problem is unemployment

Post war Europe has been hardly hit by the global crisis. It has affected the heart of its system: the European monetary system. The US financial crisis - which was essentially a banking crisis - has spread its effects all over the world and the European economies were not immune to it. This has resulted in massive wealth and job losses. Now there are worrying signs of deflation and no country is immune from winds of recession. even germany saw a drop of its GDP. 

 However, the eurozone crisis lasts  too because of inherent mistakes in fiscal and monetary policies. For the so-called 'peripheral' countries, the fiscal compact means a perpetual stagnation of their economies. They are all highly indebted, with a ratio debt to GDP close or above 100%, which means that they will have to cut massively their debt ratio putting these countries in an unsustainable situation both economically and socially.

Draghi's speech at Jackson Hole is a promising start. Everyone should read the beginning :

"No one in society remains untouched by a situation of high unemployment. For the unemployed themselves, it is often a tragedy which has lasting effects on their lifetime income. For those in work, it raises job insecurity and undermines social cohesion. For governments, it weighs on public finances and harms election prospects. And unemployment is at the heart of the macro dynamics that shape short- and medium-term inflation, meaning it also affects central banks. Indeed, even when there are no risks to price stability, but unemployment is high and social cohesion at threat, pressure on the central bank to respond invariably increases".

Look at the diverging trends in Europe and the US, leaving aside the different characteristics of labour markets in both geographical areas.

As he explained how the crisis rolled on, he stressed the relationship between financial instability and unemployment. Since 2011, the sovereign debt crisis induces diverging trends within the euro area, with the bulk of job losses in countries most affected.  

Hence, austerity policies brought more unemployed but did not restore confidence. The ECB did it with the famous ' whatever it takes speech' : without disbursing a single euro, ten year bonds soared alleviating the stress on bond market and easing access to finance on international markets. 

In conclusion, " the way back to higher employment, in other words, is a policy mix that combines monetary, fiscal and structural measures at the union level and at the national level. (...) The long-term cohesion of the euro area depends on each country in the union achieving a sustainably high level of employment. And given the very high costs if the cohesion of the union is threatened, all countries should have an interest in achieving this".

Now Europe will enter a new phase. The ECB has cut its interest rate at a level close to zero. This will be followed by an asset back securities (ABS) purchase plan on a large scale to revive lending to the real economy. As expected, this will face strong resistance from the German government and the Bundesbank which will appeal to the Court of Karlsruhe.

Beyond the rhetoric on compliance with fiscal rules, there is now growing awareness about the need to bring an end to eurozone orthodoxy. However, expansionary monetary policies are just a palliative to reduce deflation risks. As L.Summers put it, the excess of savings is responsible for a situation of 'secular stagnation' which justifies negative (real) interest rates and an increase of public spending. 

In his speech at the European parliament, the incoming European Commission President, Jean-Claude Juncker, has proposed a €300 billion public-private investment programme to help incentivise private investment in the EU economy. But this will require bold action from member States to support this EU wide initiative.

It is the time for unconventional policies, not  business as usual ones. The debate on flexibility on fiscal rules may result in sterile discussions while the true question is to  launch a  New  Deal based on an ambitious investment plan and less taxes on labour, especially the low income groups to promote economic recovery and job creation in all European economies. .

Markets and Morality

Today, public trust in markets has deteriorated. Modern societies are confronted with  extreme inequality (the Occupy movement), tax avoidance, corruption and protests against the dominant system. Mainstream economists  tend to ignore these contemporary issues leaving them to other social scientists.  

The relations between economics and ethics have been developed by a number of economists drawing on welfare and development economics as well as moral philosophy.  In the classical tradition of Adam Smith, Stuart Mill or Marx, economics goes beyond issues of profit and efficiency. Amartya Sen, perhaps the most prominent 'ethical economist', looks at the relations between economic behaviour and moral sentiments and discusses how freedoms and rights are fundamental to understand them.

The arguments about 'ethical economics' are often presented as a mix of markets and morals. We look here at three different arguments. 

Some consider markets as being intrinsically 'moral'. There is wide consensus  that  markets are necessary because they allow for free choice among a variety of goods and services. The former head of the Bank of England, Professor Brian Griffiths, gave a series of lectures in 1980, collected and published in 1982 under the title 'Morality and the Market-place'. In his book, he regards businesses as a moral community and markets as "morally self-sufficient" if they respect certain Christian values such as justice and compassion. But this is not a condition for being 'moral'. The question is to ask whether the income distribution outcome  is fair. Profits are not immoral but they are not an end in itself.

For others, ethical economics is about the use of  human and natural resources. Various economists (for example, J.Attali) consider that  sustainable development is 'ethical in itself'. The reduction of carbon emissions is certainly kinder for future generations than accepting the 'diktat' of markets. However, ethical investment goes beyond the environment: for example, respecting workers rights or not supporting dictatorships. Increasing the minimum wage, in times of austerity, is an 'ethical measure' because the poorest workers will increase their purchasing power and this will increase internal demand, which is also good for producers.

Moreover, other systems of ethics call for more fundamental change beyond the the functioning of markets. In Islamic finance, for example, religious tenets forbid usury and favour risk sharing with low but safe returns of investments. There are also some systems, such as Bouddhists who reject the foundations of classical markets based on individual choice, private property and material wealth. To be ethical an individual should withdraw from the market  or even disrupt it . Marxists in turn, seek a transformation of social production relations between capitalists and workers, but socialist ideas  gave rise to original forms of organization such as cooperatives and other aspects of social economy.  

There is thus wide disagreement on the relations between markets and morality and the different systems of ethics which underpin those relations. But, there are also different views on where ethics should apply when economic agents make a decision. Adam Smith, who was regarded as the founder of  classical economics was a moral philosopher who believed sympathy for others (or empathy)was the basis of the ethical system. But one of his key ideas in the Wealth of Nations is that empathy could be counterproductive - in other words individuals would be better off if they pursue their self interest. Smith explains this by the collective outcome.

Instead of judging consequences, Aristotle argued that ethics is about having the right character, displaying virtues such as courage and honesty. We see this today between good managers or political leaders and greedy bankers and financiers in search of immediate gains. Aristotle thought there was a golden mean between the extremes and found it a matter of fine judgement. But if ethics is a matter of character, it is difficult to apply it in modern economies.

But there is another approach - instead of focusing on the consequences of actions or the character of people who act - we  may also focus on our actions. From this perspective, some things are right, some others are wrong. For example, we should buy fair trade goods and help the poor, but adverts should not tell lies. Ethics could thus result in a list of commandments of dos and dont's. 

Many moral dilemmas arise when these three views go in different directions and conflicts can be inevitable. Take fair trade coffee, for example: buying it might have good consequences and feed virtuous behaviour in flawed markets. This suggests, that even without an agreement on where ethics applies, ethical economics is still possible.  

The classical conception of man - rational and selfish - exists, only in limited cases, and even classical economists, such as John Stuart Mill admitted that this was a parody. This economic man is a fiction, and our brain can hardly process all the relevant information to take rational decisions. A new wave of ' behavioural economists' (such as recent Nobel prizes Fama and Schiller), aided by neuroscientists, tries to understand our psychology, both as individuals and groups, so they can anticipate our decisions in markets more accurately. But psychology can also help understand why we react with disgust toward social injustice or we accept the market laws as universal. This will not define a new ethics for us, but at least economists will be more attentive to consider ethical issues in their judgements.