Here’s a scene that will be familiar to anyone who’s ever taken an introductory economics course. The professor has just finished explaining that in economics, “efficiency” means that there are no possible gains from trade. Then some loudmouth kid in the back raises his hand and asks: “Wait, so if one person has everything, and everyone else has nothing and just dies, is that an ‘efficient’ outcome?” The professor, looking a little chagrined, responds: “Well, yes, it is.” And the whole class rolls their eyes and thinks: Economists.
For most of modern history, inequality has been a manageable problem. The reason is that no matter how unequal things get, most people are born with something valuable: the ability to work, to learn, and to earn money. In economist-ese, people are born with an “endowment of human capital.” It’s just not possible for one person to have everything, as in the nightmare example in Econ 101.
For most of modern history, two-thirds of the income of most rich nations has gone to pay salaries and wages for people who work, while one-third has gone to pay dividends, capital gains, interest, rent, etc. to the people who own capital. This two-thirds/one-third division was so stable that people began to believe it would last forever. But in the past ten years, something has changed. Labor’s share of income has steadily declined, falling by several percentage points since 2000. It now sits at around 60% or lower. The fall of labor income, and the rise of capital income, has contributed to America’s growing inequality.
WHERE IS THE MONEY GOING?
What can explain this shift? One hypothesis is: China. The recent entry of China into the global trading system basically doubled the labor force available to multinational companies. When labor becomes more plentiful, the return to labor goes down. In a world flooded with cheap Chinese labor, capital becomes relatively scarce, and its share of income goes up. As China develops, this effect should go away, as China builds up its own capital stock. This is probably already happening.
But there is another, more sinister explanation for the change. In past times, technological change always augmented the abilities of human beings. A worker with a machine saw was much more productive than a worker with a hand saw. The fears of “Luddites,” who tried to prevent the spread of technology out of fear of losing their jobs, proved unfounded. But that was then, and this is now. Recent technological advances in the area of computers and automation have begun to do some higher cognitive tasks – think of robots building cars, stocking groceries, doing your taxes.
Once human cognition is replaced, what else have we got? For the ultimate extreme example, imagine a robot that costs $5 to manufacture and can do everything you do, only better. You would be as obsolete as a horse.
Now, humans will never be completely replaced, like horses were. Horses have no property rights or reproductive rights, nor the intelligence to enter into contracts. There will always be something for humans to do for money. But it is quite possible that workers’ share of what society produces will continue to go down and down, as our economy becomes more and more capital-intensive. This possibility is increasingly the subject of discussion among economists. Erik Brynjolfsson has written a book about it, and economists like Paul Krugman and Tyler Cowen are talking about it more and more (for those of you who are interested, here is a huge collection of links, courtesy of blogger Izabella Kaminska). In the academic literature, the theory goes by the name of “capital-biased technological change.”
The big question is: What do we do if and when our old mechanisms for coping with inequality break down? If the “endowment of human capital” with which people are born gets less and less valuable, we’ll get closer and closer to that Econ 101 example of a world in which the capital owners get everything. A society with cheap robot labor would be an incredibly prosperous one, but we will need to find some way for the vast majority of human beings to share in that prosperity, or we risk the kinds of dystopian outcomes that now exist only in science fiction.
REDISTRIBUTION AGAINST THE MACHINE
How do we fairly distribute income and wealth in the age of the robots?
The standard answer is to do more income redistribution through the typical government channels – Earned Income Tax Credit, welfare, etc. That might work as a stopgap, but if things become more severe, we’ll run into a lot of political problems if we lean too heavily on those tools. In a world where capital earns most of the income, we will have to get more creative.
First of all, it should be easier for the common people to own their own capital – their own private army of robots. That will mean making “small business owner” a much more common occupation than it is today (some would argue that with the rise of freelancing, this is already happening). Small businesses should be very easy to start, and regulation should continue to favor them. It’s a bit odd to think of small businesses as a tool of wealth redistribution, but strange times require strange measures.
Of course, not all businesses can be small businesses. More families would benefit from owning stock in big companies. Right now, America is going in exactly the opposite direction, with companies going private instead of making their stock available for public ownership. All large firms should be given incentives to list publicly. This will definitely mean reforming regulations like Sarbanes-Oxley that make it risky and difficult to go public; it may also mean tax incentives.
And then there are more extreme measures. Everyone is born with an endowment of labor; why not also an endowment of capital? What if, when each citizen turns 18, the government bought him or her a diversified portfolio of equity? Of course, some people would want to sell it immediately, cash out, and party, but this could be prevented with some fairly light paternalism, like temporary “lock-up” provisions. This portfolio of capital ownership would act as an insurance policy for each human worker; if technological improvements reduced the value of that person’s labor, he or she would reap compensating benefits through increased dividends and capital gains. This would essentially be like the kind of socialist land reforms proposed in highly unequal Latin American countries, only redistributing stock instead of land.
Now of course this is an extreme measure, for an extreme hypothetical case. It may turn out that the “rise of the robots” ends up augmenting human labor instead of replacing it. It may be that technology never exceeds our mental capacity. It may be that the fall in labor’s income share has really been due to the great Chinese Labor Dump, and not to robots after all, and that labor will make a comeback as soon as China catches up to the West.
But if not – if the age of mass human labor is about to permanently end – then we need to think fast. Extreme inequality may be “efficient” in the Econ 101 sense, but in the real world it always leads to disaster.