Capitalism, Socialism, and Inequality

I’ve noticed that the intellectual left in the US in the 2020s (Sanders, Warren, etc) has made a prima facie appealing case for more socialist policies. I wanted to push back against the seduction of them, based on my reading on 20th century history, politics, and economics.  I would like to point out that Sanders and Warren are not economists and have never run a large organization that contributed to growth (a state, company, city, etc).  I basically consider them as well-meaning demagogues from the left who’re spreading many discredited ideas.  They’ve diagnosed some important problems in modern American society, but many of their solutions will have painful and unintended 2nd and 3rd order effects. 

This means laying out my arguments against too much socialism and too strong a focus on equality – not a popular idea in these times for our class (highly educated coastal liberals).  

First, I don’t take a Manichaean view – all the most prosperous counties in the world (US, Nordics, Germany, Switzerland, Singapore, Taiwan, etc) have a mix of capitalist and socialist policies that have evolved from the 1890s, as federal and state/provincial bodies overtook local and county governments.  The argument is not capitalism vs socialism, but rather where to put the slider between the two, as one dimension or axis, with other key dimensions/axes being the tradeoffs between GDP growth (negative to positive), environmental sustainability (climate change, habit and species destruction, etc), HDI growth (income/education/health), equality, rule of law, etc.  I remember taking a seminar on “Comparative Capitalisms” (plural!) at Penn, and the point was that many social and economic structures can work, but some work much better over decades (this was the first time I read up on the history of Chinese Communism – the Great Leap Forward and the Cultural Revolution, that killed millions of Chinese people).

Second, the bigger, optimistic picture that the media and political classes miss is that for the average American (or for most people in the world, save a few countries in civil war like Syria, Venezuela, et), their life in 2021 is far better than in 2000, 1980, 1950, etc.  Enlightenment values and institutions, along with capitalism has worked quite well (Pinker and Jeffry Frieden make a really great case for them – I’d strongly recommend both these linked books).  I see today’s polarization as much less than the last 2 major US turning points: the late 1850s divergence on values and slaves (also rural vs industrial economies), and the early 1930s failure of the economy and depression (due to banking and macroeconomic mismanagement).  So I think Dalio is quite wrong.  People often subjectively experience their time of conflict as the worst, but they ignore the historical context for that judgment.  Weimar Germany, Bolshevik Russia, or late-Qing China were much worse, and so ripe for revolutions.  That’s NOT the US today, despite the hyperbole we see in the clickbait media or a bunch of guys with Trump flags (mostly peaceably) rioting in the Capitol.

Third, I mentioned that in 2019 most Americans were quite happy with their economic lot, as unemployment was at 60 year lows, while incomes were growing. I expect that will return in the Roaring 2020s.  I dislike the heavy socialism that Sanders and Warren propose because we’ve seen it fail quite hard in the 20th century:  Attlee’s Great Britain, Mao’s China, Nehru’s India, Peron to Menem’s Argentina, Chavez’s Venezuela, and so on were quite corrupt and held back the standard of living of their citizens, compared to the more balanced, mixed states of West Germany, South Korea, Japan, Switzerland, Singapore, and the Nordics.  State control over too many industries has mostly failed since the 1950s, as Hayek predicted in his book the Road to Serfdom, though some of the experiments were noble (Attlee in particular).  

Fourth, I think most native-born Americans are more open to heavy socialism because they never experienced it.  The last heavy bout in the US was from ~1932-1948, and much of that generation is dead or senile.  Current boomers or millennials haven’t seen what a shitshow a heavy socialist country is, but immigrants who grew up in India, China, parts of South America, etc dislike it because they lived through the many issues of corruption and regulatory capture that come from high levels of state control.  There are many great books on this, but I’d recommend the histories by John Keay on India and China, or Rock’s history of Argentina (they give multi-century views, where you can see the heavy socialist period for it is – a failed phase).

Fifth, the best examples of mixed countries for the US to examine while trying to get the balance right are Switzerland, the Nordics, Germany, Singapore, and Australia/Canada/NZ.  I personally think the UN HDI and the Cato Human Freedom Index are among the best measure of prosperity, as these are complex and have much research showing that you can capture principal components of prosperity with a few factors.  The US is in the low teens for both – top performers are Switzerland, Ireland, HK (though this will drop due to recent events), Denmark, and NZ/Australia.  See the tables below.  Steinberg’s “Why Switzerland” is probably the most interesting political-economy book that no one reads.

Sixth, I consider inequality (say the Gini coefficient, with 0 being purely equal and 100 being purely unequal) as a flawed, inconclusive measure.  There are many objectively terrible countries with high inequality (South Africa, Namibia, Suriname, CAR, and Brazil are in the mid to high 50s) and low inequality (Belarus, Ukraine, Azerbijan, Khazakistan are in the mid-20s).  The US is the most unequal rich country at 41, and Germany is the most equal (large) rich country at 32 – not that wide a range, but in the middle.  Some early research on inequality and growth suggests “High levels of inequality reduce growth in relatively poor countries but encourage growth in richer countries”, and more recent research backs that up, like this work

“[I]f you are really concerned about alleviating poverty, economic growth is unambiguously a good thing. It is a powerful locomotive for bringing poor people out of poverty. The effect of inequality is very much secondary. One bottom line, therefore, is that economic growth is good — almost regardless of how much rising inequality accompanies it — given how, historically, inequality and growth have evolved. Now there might be extreme circumstances that the world has not yet experienced and that might overturn this conclusion, but based on the last 25 to 50 years of recorded world history, we have to conclude that growth is the single most powerful force for lifting hundreds of millions of people out of poverty.”

Knowledge@SMU. Measuring the Trade-offs Between Economic Growth and Unequal Distribution of the Benefits. (2007). Knowledge@SMU.
Available at:

Some details from OECD research at the household level are further illuminating:

“As OECD countries try to encourage recovery, how do growth enhancing policies affect income inequality? Identifying the trade-offs between growth and inequality is no simple task. True, in a majority of OECD countries, GDP growth over the past two or three decades has been associated with growing income disparities. Recent OECD work has shown that this increase to a large extent reflects skill-biased technological change (OECD @ 100). However, the potential policy drivers of these changes in income distribution–within and between countries–are less clear. To shed light on this issue, one recent study by Causa et al. has investigated the long-run impact that structural reforms have had on GDP per capita and household income distribution. Based on this analysis, reforms that favour growth can be distinguished according to whether they increase, reduce or have no impact on disposable income inequality. 
It reveals some interesting trends. Indeed, several growth-enhancing reforms contributed to narrower inequality by delivering stronger income gains for households at the bottom of the distribution compared with the average household. Such is the case, for instance, of reducing regulatory barriers to domestic competition, trade and inward foreign direct investment, as well as stepping up job-search support and activation programmes.  However, a tightening of unemployment benefits for the long-term unemployed lifts average household incomes in the study, but reduces disposable incomes at the bottom of the distribution, an indication that it may raise inequality.

Causa, Orsetta, Alain de Serres and Nicolas Ruiz (2014), “Can growth-enhancing policies lift all boats? An analysis based on household disposable incomes”, OECD Economics Department Working Papers, OECD Publishing, Paris, forthcoming.

Finally, a few reforms leading to higher GDP per capita have an even impact on all households, regardless of income group. Examples include measures that aim at promoting investment in information and communications technology and at raising the average level of education in the working age population, as well as reductions in marginal income taxes for wage earners.”

In sum, I’m more concerned about parts of the US going into heavy socialism and failing than I am about a revolution from the masses due to inequality, but frankly, both are not very high on my concern list.  Our biggest problems are how to improve basic HDI for the bottom 20% of the US and then for the bottom 50% of the world, in a way that doesn’t destroy the environment or the incentives that foster sustainable growth. 

I see good, boring, rational, rule of law-based governance and tech-driven, scientific innovation and capitalism as the great forces that will solve most of these problems.  And as messy and terrible as 2020 was, the institutions worked on both ends, and I expect a massive boom this next decade.

Rankings from the Freedom Index and UN Human Development Index

%d bloggers like this: