11 Responses to “Why plutocracy endangers emerging market economies”

Comments

1. Jagdish Bhagwati: Martin Wolf’s splendid column prompts some thoughts. The political consequences of extraordinary riches depend very much on how the riches were arrived at, and on how they are spent.

   How they are arrived at: In an invited article on Good and Bad Capitalists in Die Welt last year, I pointed out how both Americans and the world respected Bill Gates enormously because he had made his money by his innovative ability that had led to revolutionary implications for the way we lived and earned. But Soros, also a “big capitalist”, hardly commanded such respect because everyone knew that he had made money by speculation - only economists understand that speculation is not always destabilising - and that fetches opprobrium, not applause.

   A similar comment applies to other ways in which the money was made. If they see that the super-rich guy made his fortune through “rent-creation” and “rent-seeking” and other “directly unproductive” forms of profit-seeking - such as profiting from monopolies by politicians distributing largesse at social cost, they will disapprove. But if the moneys have been made simply by indulging in entrepreneurial activity, there is a greater chance that envy or opprobrium will not follow.

   This is also why I wrote against the widespread, self-serving charge in Washington circles that the Asian financial crisis had been a result of “crony capitalism”: it would gratuitously undermine public trust in the governance in these countries. In an article in Singapore Times, I said: Here (in the West), we call them friends; There (in Asia) we call them Cronies! This is also why the work carried out at the World Bank on corruption, which is a bunch of statistics without nuanced conceptualization, is not merely unsound but also counterproductive and must be shut down by the developing countries which tend to become its unjustly maligned victims.

   How the riches are spent: Bill Gates always used his moneys for philanthropic purposes and did not dabble in politics. Soros, on the other hand, was spending large sums of money on politics - for Democrats which is a small saving grace for me as I am a Democrat! - and so produced negative reactions because generally speaking the common man resents big money in politics. I mischievously suggested therefore that a cartoonist should draw Soros in a cell next to the one for Khodorkovsy (who had dazzlingly dabbled in Russian politics), with the legend underneath: Capitalists of the World Unite!

   Again, much will depend also on whether the super-rich spend on conspicuous consumption or on social spending. Mr. Slim, rather inappropriately named, has wised up to this. He is also very smart. He gives through the Clinton Global Initiative: so, for his “social spending” he also earns a chance to sleep in the Lincoln Bedroom! Former President Clinton, who cannot be accused of not being smart either, titles his new book, Giving. It should have been called instead, Taking. Give me President Carter any time: he goes and builds houses for the poor and gives of himself instead of advancing himself and his family. So, maybe Mr. Slim should give to President Carter instead; but he is too smart to do that!

   I do not know about other countries; but in India, though President Clinton tries hard to appear magnanimous, there are resentments. Thus, when there was an earthquake in my home state Gujerat, I gather that he turned up to grieve and give (others’ money). But Gujerat is a state where virtually every family gives. My family alone rebuilt five primary schools with our moneys and other inputs. The sight of Bill Cinton in Gujerat prompted a famous remark: the poor and the distressed are doing more for him than he is doing for them. So, Mr Slim and others: follow the example of Warren Buffett instead. He gave his enormous wealth to Bill Gates, the greatest social entrepreneur today. As in business, go where the social returns are the highest, not your personal returns.

   Posted by: Jagdish Bhagwati | November 7th, 2007 at 4:41 pm | Report this comment
   

2. Pranab Bardhan: Martin Wolf’s interesting observations on the adverse consequences of extraordinary concentration of wealth prompt me to make some, mainly supplementary, comments:

   (a) The main Mexican example discussed in the column is just one more illustration of how privatization that converts a public monopoly into a poorly regulated private one is not often a solution for the inefficient public sector.

   (b) Even in more competive market economies a basic dilemma is that the successful entrepreneur who utilizes the chances of entry in a profitable market soon spends considerable effort in blocking entry of others. The case of Bill Gates is an example of how even in a dynamic industry much of his riches were acquired by blocking or pre-empting smaller, often more innovative, competitors.

   (c) Mr Wolf does not consider himself to be an egalitarian, but it is worth pointing out that there are many examples where there need not be a trade-off between equity and efficiency. Even apart from the political consequences of extreme inequality that he refers to, there are many cases where equity and efficiency go together. It is not an accident that the egalitarian Scandinavian countries often top the list of global competitiveness rankings. Inequalities of land and education in poor countries like India sharply reduce their vast potential for productive investment, innovation and human-resource development. In unequal societies it is also more difficult to build consensus and organize collective action towards long-term reform and cooperative problem-solving efforts.

   Pranab Bardhan is professor of economics at University of California at Berkeley

   Posted by: Pranab Bardhan | November 7th, 2007 at 11:37 pm | Report this comment
   

3. Stephen Cecchetti: I agree completely with Martin that the concentration of wealth is dangerous. But by singling out the sources and consequences of plutocracy in emerging market countries, he does not go far enough. In their excellent, and largely underappreciated, book Saving Capitalism from the Capitalists (Crown Business Books, 2003), Raghuram Rajan and Luigi Zingales note the general problems caused by wealth concentration. They point out, rightly in my view, that those who use markets to become wealthy – Bill Gates, Warren Buffett, Jim Simons and the like – then have an interest in preserving their wealth. To do this, they move to accumulate political power that they can then use to thwart the market forces that would naturally create wealthy competitors. (Silvio Berlusconi is an obvious example.) That is, successful capitalists will feel threatened by free markets and quickly turn against the very system that created them. My conclusion is that wealth concentration threatens all market-based economic systems, not just those that are less developed in the conventional sense.

   Posted by: Stephen G. Cecchetti | November 8th, 2007 at 1:54 pm | Report this comment
   

4. Willem Buiter Three points.

   First, Jagdish Bhagwati’s assertion that how vast wealth is regarded depends on how it was acquired and how it is used, appears to be contradicted by one of the exhibits he offers in evidence. If Bill Gates’s extraordinary wealth is indeed regarded as legitimate, this must be despite the fact that the company that produced this fortune, Microsoft, stands convicted of abuse of monopoly power in the US courts (in a trial that started in 1998 and, with appeals, lasted until 2004). Earlier this year, the European Court of Justice upheld key parts of a European Commission decision imposing sanctions on Microsoft for similar transgression of European law.

   Microsoft has always been extremely weak on creativity and originality, strong on marketing, PR and opportunism, and without peer at sharp, ruthless, predatory and intimidatory business practises that often got preciously close to, and on at least two occasions transgressed, the boundaries of what was legal.

   It is almost impossible to come up with examples of vast fortunes, past or present, whose ‘primitive accumulation’ process does not exude the stench of deceit, double-cross, sharp practise, extra-legality or illegality.

   Second, I commend the bit of talmudic wisdom (expressed most eloquently by Maimonides) that charity only has real moral value if it is ‘double blind’: the donor does not know who the beneficiary is, and the beneficiary does not know who the donor is. From this perspective, the Gates Foundation and other large charitable/philanthropic foundations and ventures, are engaged in a form of conspicuous consumption. The conspicuous consumption happens to take the form of giving money away rather than spending it on personal jets, old masters or young mistresses, but it is not morally superior to these other forms of conspicuous consumption.

   Finally, even legitimately acquired extreme wealth is, because it leads to vast inequalities of power, a threat to liberty. Too often, the extremely rich are no longer under the law, but either beyond the law or busy subverting or changing the law to serve their private interests, by buying or corrupting parliamentarians, members of the executive branch of government, or members of the judiciary. We can observe such a gradual degradation of an open, pluralistic society with an accountable executive and an independent judiciary, and its creeping metamorphosis into an increasingly oppressive and repressive plutocracy, both in the US an in the UK.

   While the problem is obvious, its resolution, unfortunately, is not.

   Posted by: Willem H. Buiter | November 10th, 2007 at 2:05 am | Report this comment
   

5. Martin Wolf: This has been a rich and fascinating discussion of what I consider to be one of the most important issues of our era. I would like to add a few supplementary comments.

   First, does it matter how wealth is made? The answer is quite clear: yes. The only justification for vast wealth is that it rewards (and so motivates) value-adding entrepreneurship. Let me be clear here: I am only saying that it is a necessary condition for such a justification, not that it is sufficient. If someone has made a vast fortune in competitive markets, he (it virtually always seems to be a “he”) has at least added something to the well-being of others. Willem takes the view that some stench almost always accompanies the accumulation of vast wealth. But I cannot see that the founders of the Indian software companies that sell almost all their services abroad or the founders of Google or Warren Buffett, for that matter, did much underhand in creating their vast fortunes.

   Yet what is clear is that the more underhand the dealings and the less competitive the markets, the smaller the justification for wealth. Since a vast proportion of recent fortunes are clearly the consequences of unbridled rent-seeking, they are impossible to justify in this way. By and large, I would suggest that this is more frequent in emerging economies, where arbitrary intervention by government is more common and the rule of law weaker, than in the advanced countries. So this is why I would respond to Stephen Cechetti by saying that the problem exists everywhere, but is worse in the emerging economies.

   Second, does it matter how wealth is used? Again, the answer is “yes”. I agree with Willem that there is no moral superiority attached to publicly giving away vast wealth that nobody could ever sensibly use. Bill Gates is buying a reputation, which is a good, like any other. But it makes a difference to society if he uses his wealth to defeat malaria rather than build 20 palaces and super-yachts (as an aristocrat of old might have done). Of course, it might be better still if the public sector financed the defeat of malaria, but it is not going to do so.

   Third, does the accumulation of great wealth provide both the incentive and the wherewithal to distort competitive markets in one’s favour? The answer, again, is “yes”, “yes” and “yes”. This is indeed one of the great disadvantages of the accumulation of vast wealth. But this does not depend on there being a particular individual with wealth. A widely-held company with a dominant position, possibly one achieved in competitive markets, is also likely to want to abuse its power. But I do accept the general point made by Raghuram Rajan and Luigi Zingales, mentioned by Stephen Cecchetti. I wrote about that brilliant book a few years ago and pointed out that one could easily envisage collusion between those represented at Davos and their opponents, against competitive markets.

   Fourth, can egalitarian societies do well, as Pranab Bardhan argues? Yes, some have done very well indeed. They have even been highly innovative. But the US has also been highly innovative, on a grand scale.

   Finally, is vast wealth dangerous in itself, however it has been accumulated, as Willem argues? The answer is “yes”. Historically, the emergence of plutocracies has often led to the downfall of republics, because plutocrats can buy support and subvert the equal access to the law and the electorate necessary for functioning representative institutions. The Medicis in Florence are just one example. The collapse of the Roman republic – surely, much the most successful of all experiments at republican government – is an even bigger warning. Even before we get to the end of democracy, fundamental attributes of the rule of law go out the window. I am particularly concerned about the role of wealth in US politics today: it seems to me to be both corrupt and corrupting.

   Yet the drawbacks can be seen everywhere. We think, for example, that the situation in which French pre-revolutionary aristocrats did not pay taxes was an outrage. But this is, of course, exactly the scandalous situation that the private equity industry has arranged for itself in the UK (and, I believe, also the US) with the absurd, indeed grotesque, notion that an uncertain bonus (so-called “carried interest”) is a capital gain, to be taxed at half or a quarter of the rate paid by what Leona Helmsley notoriously called “little people”.

   Worse still, representatives of the industry suggest that we should be grateful for their willingness to bless us with their presence, so great are the benefits they scatter upon the rest of us. I think this is complete nonsense. I am surprised that they are not arguing for a negative tax rate (a subsidy). But the rich can easily hire propagandists, lawyers and accountants to shift the law, the political process and the tax system in their favour.

   If this can be done in a country like the UK, it goes without saying that the vastly wealthy are completely above the law in most places. When they are brought down, as happened to Mr Khodorkovsky it is only because they made an enemy of even more dangerous people: those in control of the state. For we must remember that bad though irresponsible and unaccountable wealth often is, an irresponsible and unaccountable state is far far worse.

   Posted by: Martin Wolf | November 12th, 2007 at 7:46 pm | Report this comment
   

6. Martin Wolf: A small addition to this discussion. Willem refers above to what Maimonides (the great 12th century Jewish doctor, philosopher and scholar) said about charity. It is worth adding that Maimonides lived in the Muslim world (i.e. Egypt, Morocco and Andalusia), which was vastly more tolerant and civilised than Europe at that time.

   The text is Maimonides’ Mishneh Torah, Laws of Gifts to the Poor 10:7-14. I have found the following translation on the internet.

   The text is more subtle than Willem suggests. Mr Gates seems to sit on the second from bottom rung. But his charity is not morally worthless either. Incidentally, I presume that today Maimonides would not wish to restrict the highest degree of charity to fellow Jews.

   Here is the text (with the translator’s commentary in square brackets):

   “The highest degree of charity—above which there is no higher—is he who strengthens the hand of his poor fellow Jew and gives him a gift or [an interest-free] loan or enters into a business partnership with the poor person. [Interestingly, Maimonides within the internal allocation of this degree proceeds from the lower rank to the higher. The loan is a higher form of charity than is the outright gift since the poor are not shamed thereby (Rashi on Babylonian Talmud Shabbat 63a), while the business partnership is more praiseworthy than the loan or any other form of charity.] By this partnership the poor man is really being strengthened as the Torah commands in order to strengthen him till he is able to be independent and no longer dependent on the public purse. It is thus written, “Strengthen him [the poor person] so that he does not fall [as distinct from the one who has already become poor] and become dependent on others” (Leviticus 25:35). “

   [In modern terms, these are all charitable actions aimed at breaking the poverty cycle and enabling the poor to establish themselves as independent and productive members of society. For this reason, there is no halakhic objection to the poor working while they are receiving their basic needs from society. By the same standards, guidance regarding budgeting, financial planning, consolidation of loans, and so forth, would be included in this highest form of charity.]

   “A lower standard of charity is one in which the benefactor has no knowledge of the recipient and the latter has no knowledge of the individual source of charity—matan b’seter [“giving in secret”]. This is practicing the mitzvah of charity for the sake of the mitzvah [since the benefactor has no benefit, social or egoistical]. Such charity is like the courtyard in the [ancient] Temple where the righteous used to place their donations secretly and the poor would benefit from them in secret. Similar to this secret courtyard is the act of one who puts his money into the charity box [or funds].

   “Below this rank is the case where the recipient is known to the benefactor but the latter is unaware of the source of the charity. [Since the benefactor may have, subconsciously, pleasure and a sense of power over the recipient, this detracts from his act and makes it less meritorious than the previous standard.] This is what the sages used to do when they would go in secret and place their gifts at the door of the poor. It is fitting to do this and meritorious in those cases where the officials in charge of the communal charity do not behave righteously.

   “Where the recipient is aware of the source of the charity but the giver does not know to whom the money is being given, the degree is lower [since the recipient, knowing who gave him the money, feels beholden to him and ashamed in his presence]. Yet, there is merit since the poor are saved from direct shame.

   “Of less merit is charity where both are known to each but [at least] the gift is made before the poor asks for it. [In this case the giver is showing care since he anticipates the needs of the poor. The Patriarch Abraham does not wait for the stranger to come to ask for his assistance, but runs toward him and begs him to share his hospitality; this is the archetype of Jewish righteousness.]

   “[Clearly] where one gives charity after being asked for it is of a lower degree. [Since the method of giving charity is an integral part of charity], one who gives less than what is fitting but with good grace [is of higher merit than] one who gives unwillingly.”

   Posted by: Martin Wolf | November 14th, 2007 at 9:51 am | Report this comment
   

7. Robert Skidelsky: In his column in the Financial Times of 7 November, Martin Wolf writes that extreme inequalities of wealth are bound to call into question the legitimacy of the political and economic system which allows them.

   He goes on to say that it is easier to justify wealth earned in competitive markets than wealth earned by exploiting a monopolistic or protected position. This is the classic distinction between profit and rent. Entrepreneurs earn profits, monopolists earn rents. The American super-wealthy made their fortunes through competitive success, now or in the past; the Russians by ‘appropriating much of the wealth of a collapsing superpower’.

   In the subsequent debate in the FT’s online forum, many have pointed out that Wolf’s criterion of legitimacy was insufficient. Whether earned competitively or under conditions of monopoly, great wealth gives rise to illegitimate power. For example, Pranad Barhan argued that successful entrepreneurs use their wealth to block the entry of competitors. Bill Gates [of Microsoft] is an example of the tendency, even in a dynamic industry, for profit to turn itself into rent. William Buiter noted that even ‘legitimately acquired extreme wealth’ is dangerous for liberty, because ‘too often the extremely rich are no longer under the law, but either beyond the law or busy subverting or changing the law to serve their private interests’ – notably by bribing or corrupting governments, parliaments, and judges. This aborts the accountability of governments to those who elected them.

   This is the traditional social democratic critique: unequal wealth leads to unequal power. Joe Stiglitz’s latest book, Making Globalization Work, is a good example of this quasi-Marxist approach. He says that multinational corporations have created a global trading regime to suit their interests,undermining the benefits of globalization. However, it should be noticed that in this type of argument the economy and the political system are considered, and analysed, as separate entities. This is the western tradition, and reflects the historical separation of the two realms. The issue is then whether and how the plutocracy subverts the democratic process to its aims.

   It is not clear that such an analysis applies to contemporary Russia, which boasts fourteen of the richest people in the top one hundred richest in the world. This is because it locates power in the wrong place. In Russia power and wealth are fused in a system of state capitalism, with the state in control. This was Putin’s great achievement, when he crushed the independent oligarchs by dismantling Yukos and destroying the political ambitions of Khodorkovsky. Today the oligarchs are entirely subservient to the Kremlin, and will even become philanthropists on the President’s orders.

   In the west, wealth threatens to bend the state to its will; in Russia the state bends wealth to its will. Wealth is part of the state apparatus, a power resource like the army or police force, to be deployed primarily for public purposes, and only secondarily for private enrichment. Because they have no independent power, the Russian oligarchs are tolerated, even though their wealth is based on rent. If they step out of line, they can be disposed of, to popular acclaim.

   But there is a big downside. The American billionaires form an entrepreneurial elite; the Russian billionaires are an off-shore aristocracy who siphon as much of their wealth as they can abroad. To have a business leadership with no commitment to their country is a menace to Russia’s future.

   Posted by: Robert Skidelsky | November 14th, 2007 at 4:36 pm | Report this comment
   

8. Martin Wolf: Robert Skidelsky’s comment is apposite and correct. But the new form of state capitalism is far worse than even he suggests. It is economically and politically stifling. The new billionaires don’t know what entrepreneurship means, while the state doesn’t care.

   What those who control the state do care about is extending their monopoly over power. Robert calls this “Putin’s great achievement”. What he has “achieved” is to return Russia to a contemporary form of the predatory, power-monopolising state that the world has known - and had good reason to fear - since Ivan the Terrible. Some achievement!

   Posted by: Martin Wolf | November 15th, 2007 at 10:46 am | Report this comment
   

9. Brad Setser: I wonder if Robert Skidelsky’s comment on Russia - “In Russia power and wealth are fused in a system of state capitalism, with the state in control” - also applies, though with perhaps a bit less force and with some important differences, to parts of the Chinese economy. The fortunes made in the Chinese real estate business have often been forged in close cooperation with the state. Reforms have made some large SOEs (and the state commercial banks) profitable - adding to the “capitalism” part of state capitalism - without obviously loosening the state’s control. The now profitable commanding heights of the Chinese economy remain largely in state hands, and that seems unlikely to change. Indeed, the state cannot obviously loosen its grip on the state banks without ending its ability to sterilize the huge increase in China’s reserves.

   The obvious difference comes from the fact that wealth in Russia generally comes from control over natural resources while wealth in China doesn’t.

   Posted by: Brad Setser | November 20th, 2007 at 5:12 pm | Report this comment
   

10. Brad Setser: This is a bit late, but I wanted to note that I share Dr. Wolf’s outrage at the tax treatment of carried interest. The campaign to defend this tax break will not be viewed as American capitalism’s finest hour.

    And - if private equity can be viewed as a macro arbitrage between the debt market and the equity market and if large purchases of debt by emerging market central banks had the effect of lowering risk free rates and indirectly creating demand for riskier debt by private investors looking for a bit of yield in world where treasuries paid little - it is entirely possible that this “industry” is already subsidized. The subsidy just comes from taxpayers in emerging economies.

    Posted by: Brad Setser | November 20th, 2007 at 5:20 pm | Report this comment
    

11. I like both of Brad Setser’s comments. Indeed, the fusion of power with wealth, to which Robert Skidelsky refers, is almost universal, across time and space. The very idea of separating the two is modern and western.

    It would have been taken for granted, historically, that a principal reason for obtaining power is also to enjoy the luxuries afforded by wealth. In today’s world, just think of the various kleptocrats. Robert Mugabe is one of a host of examples. An absolute monarch owned everything he wanted to own. What is depressing about Russia is that it wishes to drag itself back to this future.

    On private equity, I have nothing to add. I am depressed, but not surprised, that this “industry” has managed to get away with this nonsense.

    Posted by: Martin Wolf | November 21st, 2007 at 10:10 am | Report this comment
    

The FT Economists' Forum is a discussion among some of the world's top economists. As a general rule we accept comments from invited members only, but submissions from others will also be considered.

If you are a non-member submitting a comment, please include your relevant academic or financial background.

Post a comment

Name

Mail (will not be published)

As a final step before posting the comment, please type the two words you see in the image beloweight numbers in the audio clip; this test is to prevent automated robots from posting comments.

Type the two words: Type the eight numbers: Unfortunately you provided the wrong reCaptcha answer. Please try again: