Journal of Economic Literature 2014, 52(2), 519–534 http://dx.doi.org/10.1257/jel.52.2.519 The Return of “Patrimonial Capitalism”: A Review of Thomas Piketty’s Capital in the Twenty-First Century † Branko Milanovic * Capital in the Twenty-First Century by Thomas Piketty provides a unified theory of the functioning of the capitalist economy by linking theories of economic growth and functional and personal income distributions. It argues, based on the long-run historical data series, that the forces of economic divergence (including rising income inequality) tend to dominate in capitalism. It regards the twentieth century as an exception to this rule and proposes policies that would make capitalism sustainable in the twenty-first century. ( JEL D31, D33, E25, N10, N30, P16) 1. Introduction state that we are in the presence of one of the watershed books in economic thinking. am hesitant to call Thomas Piketty’s new Piketty is mostly known as a researcher I book Capital in the Twenty-First Century of income inequality. His book Les hauts (Le capital au XXI e siècle in the French revenus en France au XXe siècle: Inégalités original) one of the best books on economics et redistributions, 1901–1998, published in written in the past several decades. Not that 2001, was the basis for several influential I do not believe it is, but I am careful because papers published in the leading American of the inflation of positive book reviews and economic journals. In the book, Piketty because contemporaries are often poor documented, using fiscal sources, the rise judges of what may ultimately prove to be (until the World War I), the fall (between influential. With these two caveats, let me 1918 and the late 1970s), and then again the rise in the share of the top income groups in France. Piketty revived the methodology originally used by the two pioneers of income distribution studies—Vilfredo Pareto and * World Bank, Research Department. I am grateful to Simon Kuznets. It consists of the use of tax the editor, Steven Durlauf, for many detailed and very useful comments and to Ann Harrison, Christoph Lakner, data, rather than household surveys and, as Peter Lanjouw, Niels Planel, and Leandro Prados de la such, is especially powerful in uncovering Escosura, who read and commented on the first version the distribution of top incomes. This focus on of the text. † Go to http://dx.doi.org/10.1257/jel.52.2.519 to visit the the top makes both economists and the gen- article page and view author disclosure statement(s). eral public more aware of the rich and their 519 520 Journal of Economic Literature, Vol. LII (June 2014) income levels than do broader distributional A reader who knows Piketty from this pre- studies that are more concerned with over- vious work would naturally expect Capital all measures of inequality like Gini. Piketty’s in the Twenty-First Century to focus on French study was soon followed by a similar income concentration. He or she will not long-term study of top incomes in the United be disappointed. The international evidence Kingdom (Atkinson 2003), the United States of income concentration is described and (Piketty and Saez 2003), the rest of Europe explained probably more clearly than ever. and the developed world (Atkinson and However, this is not the only important part Piketty 2007), and, most recently, in a num- of the book. The key contribution is Piketty’s ber of emerging market economies (Atkinson analysis of capitalism. Issues of inequality and Piketty 2010; Alvaredo et al. 2013). The are only one facet of that analysis. Piketty’s work that is principally associated with these unstated objective is nothing less than a uni- authors includes now many long-run studies fication of growth theory with the theories covering, in some cases, a century or even of functional and personal income distribu- two, from more than twenty countries. An tions, and thus a comprehensive description impressive interactive database “World Top of a capitalist economy. Incomes Database” (http://topincomes.g- The book is divided into four parts and mond.parisschoolofeconomics.eu/) has been sixteen chapters. The four parts are as fol- created. Currently (October 2013), it con- lows: first, some “clearing of the decks,” tains the data from twenty-seven countries. which consists mostly of definitions, national The prominence of the work of Piketty accounts identities, and relationships to be and his associates has also been helped by used later; second, focus on the capital– the revived interest in inequality, which coin- income ratio and functional distribution of cided with the onset of the Great Recession national income; third, inequality in inter- and the realization that, in the United States, personal distributions of wages, property incomes around the median have been stag- incomes, and wealth; and fourth, policy rec- nant in real terms for almost forty years, while ommendations. Capital, as the title suggests, the top 1 percent, or even more narrowly the is at the center of the book. It is a huge and top 0.1 percent, have dramatically increased extremely rich book. Suffice it to say that it their share of total income (reaching for the presents two to three centuries of empirical top 1 percent some 1/5 of total income). The data on capital and output, national income rise in the political importance of inequality, distributions, the rate of return on capital, exemplified in the United States by political inflation, inheritance flows, and more for activism associated with the Occupy move- the most important rich economies (France, ment, its 99 percent versus 1 percent slogan, the United Kingdom, the United States, and and John Edwards’s political rhetoric of “two somewhat less Germany, Japan, Sweden, and Americas,” had its empirical basis in the work Canada). The book’s range is immense: from done by Piketty and Saez (2003). Their famous the exchange rate of the livre tournois on the graphs of the income shares of the U.S. top eve of the French Revolution to the 2013 decile, top 1 percent, and top 0.1 percent Cypriot financial crisis; from the capital- showing that, at the turn of the twenty-first ized values of slaves in the Southern United century, the rich’s income shares approached States to Chinese private foreign holdings the high values of the Roaring Twenties, are today; from the percentage of the popula- now ubiquitous in the popular media. But tion with the right to vote in France under the origin of the graphs goes back to Piketty’s Bourbon Restoration to today’s incarcera- 2001 book on top incomes in France. tion rates in the United States. In addition, Milanovic: The Return of “Patrimonial Capitalism” 521 this 700-pages long book is accompanied by income is called . From historical studies of β an enormous online technical annex (http:// France, the United Kingdom, and the United piketty.pse.ens.fr/fr/capital21c) that contains States (chapter 3), Piketty establishes that β all the underlying data used in the book, has, from the time of the French Revolution tables, graphs, references, and the summary to today, followed a U-shaped pattern. It of the essential points. So by using less than was high, reaching a value of about seven 1 percent of the total space of Piketty’s book in France and the United Kingdom before and annex, this review will attempt to pro- World War I (and around five in the contem- vide an exposition and assessment of the porary United States), and then declined by book’s key points and messages. more than half during the next fifty years in continental Europe and the United Kingdom (and to less than four in the United States).2 2. Fundamental Economic Laws In the past thirty years, however, the ratio has of Capitalism begun to rise again, reaching, or coming close To understand Piketty, one must return to, the values from the turn of the twentieth to the classics of economics. Like David century. Ricardo, Thomas Robert Malthus, and Karl This U-shaped curve of the K/Y ratio Marx, Piketty builds a simple “machine” was known to the readers of Piketty’s pre- that captures the key features of a capitalist vious work. In this book, he marshals more economy. He then uses that machine to illu- compelling evidence to show that this is a minate the discussion both of the past and process that characterizes all advanced capi- the future. The machine or, in more modern talist economies. But the full significance of parlance, the “model,” consists of one defi- increasing comes out clearly only when it β nitional relationship, two fundamental eco- is combined with Piketty’s first fundamen- nomic laws of capitalism (as they are called tal law of capitalism and one key inequal- by Piketty), and one inequality relationship. ity relationship. The first fundamental law Let’s start with the definition (chapter 1) states that the share of capital incomes in that links the stock of capital (K) to the flow total national income ( ) is equal to the real α of income (Y). The stock of capital includes rate of return on capital (r) multiplied by .3 β all forms of explicit or implicit return-bear- ing assets: housing (which Piketty, unlike many authors, treats as an integral part of that enables its owner to receive a return, including the implicit return on housing, is capital. capital), land, machinery, financial capital 2 Pre–World War I United States is an interesting case. in the form of cash, bonds and shares, intel- The North had low values of (around three), while the β lectual property, and even human persons at South had an almost European-like capital–income ratio of six.