Inequality and Wealth Creation

Inequality is not an appropriate measure of economic performance or wealth creation.

Inequality is a relative and comparative statistic. It shows how wealth is distributed, which is not that meaningful, and certainly should not be the basis of economic policy. Essentially, inequality is a comparative metric and not an absolute one. That is, if everyone does better but a few people do much better, inequality increases, and this is seen as something bad even though everyone is better off. It is used to create misleading policies that focus on redistributing wealth that is created versus policy that should be focused on enabling greater and more distributed wealth creation – not wealth capture. Policy should focus on how to best create wealth for more people. The absolute degree of wealth creation is beside the point relative to other people. Creating opportunity for the most people is what matters.

As an example, overall wealth has increased over the last 30 years for every population group, but for the highest group, it has increased more substantially. But, why is that a problem? Instead, it is a natural and unavoidable outcome of the free market.

Here’s the analogy: if you want to hold a lottery, the prize has to be disproportionately large to have the most participants to raise the most capital. The simple goal is that net outflows (prizes) are smaller than the net inflows (contributions or purchased tickets). This is very similar to business opportunities and wealth creation.

As an economy, we want as many contributors to wealth creation – entrepreneurs and new businesses driving economic growth – as possible. The only way to do this is to enable market participants to have the greatest possible reward without restrictions. Most businesses will fail (much like most lottery tickets lose). But, because we have increased the number of willing participants, we also increase the opportunity to create the most wealth – the most businesses, jobs, and economic growth, as well as increasing the tax base from both businesses and individuals. So wealth creation, even if it is concentrated mostly in a handful of people, benefits the overall economy and society much more effectively than any attempt to limit that upside or redistribute it through politically popular but inefficient and demotivating policy.

Creativity Creates Monopolies

Not that there’s anything wrong with that.

Seismic innovations have generated widespread “creative destruction.” Innovations continue to wreak havoc upon the technology and traditional business models of incumbent competitors and transform the economic underpinnings of society. The more traditional framework of economic competition is giving way to a world of natural monopoly in which high octane data processing and instantaneous information distribution enable the production of new goods with small marginal costs.

Google, Amazon, Apple, Facebook, Netflix, eBay, and Microsoft are some of the obvious examples of this. These companies are fundamentally monopolies within their industry sectors. No one wants the second most pervasive search engine, office software, online retailer, streaming service, or auction site.

Technology and innovation have led to business models where monopolies are a natural outcome for successful companies.

It’s Not All Good

“Creative destruction” is two-sided – there is the creation of new and vibrant businesses, but there is also the destruction of not only incumbent businesses, but social structures and personal lives. An ignored calculation is whether or not the “creative” outweighs the “destruction.”

We have witnessed a combination of the emergence of new digital monopolies in the 21st century and our government’s failure to grapple with the legal challenges these create. Even as early as the initial dotcom boom and bust, government stood on the sidelines through a combination of lack of both understanding and foresight into what the potential societal consequences could be. Now, those consequences have become far too obvious. Among other things, this has resulted in grave social and economic problems. From the decimation of the news and music industries to the disruption of U.S. elections by foreign governments to rising levels of anxiety, depression, and suicide among young people.

It’s Still All About Wealth Creation for the Many

A variety of social ills, ranging from poverty to lack of opportunity to uneven economic outcomes have been described as the central problems to be solved, and the solution is seen as somehow alleviating inequality. This is incorrect. Enterprise and economic growth are driven not by the unique genius and vast fortunes of the very rich but by the purchasing power of the masses that create markets for new ideas. Without a market, no idea has economic value. Markets are created when many people have increased purchasing power. This purchasing power comes from wealth creation.

An underestimated and powerful tool – arguably the most powerful tool – is the wealth creation of the masses enabling additional consumption and overall value creation in the markets for those companies providing those new products and services. Today’s solutions are not mysterious. Wealth creation matters for the masses. Redistribution from the “lottery winners” to everyone else is not the solution. This was not what enabled prosperity in the 20th century, and a similar policy will destroy the potential for prosperity in the 21st century.

We’ve Seen this Before

This obvious solution goes back several hundred years. Even in the 17th century, unequal outcomes from entrepreneurial activities and business growth were an engine for social improvement because businesses were created that not only created substantial wealth for the creators of those businesses, but also new highly-paid employment opportunity for the masses, along with cost-effective products and services improving many lives. This equation has not changed.

What is described as great technological change causing extraordinary inequality and rampant capitalist abuses actually supports a high standard of living for the average American. Once again, focusing on inequality misses the point that progress is about wealth creation and rising income through new economic opportunities. Those opportunities must be created and the creators certainly “hit the lottery jackpot.” But many others enjoy increased incomes, better jobs, and careers in professions that would not otherwise exist if not for the “lottery winners.”

Business development, while coming with clear costs, generates net benefits. Even an extreme example like the Chicago meatpacking houses that had inspired Upton Sinclair to write “The Jungle” also made a better healthier diet available on a massive scale. The microprocessor, information technology, and the computer age, in general, deliver new wonders at a previously unthinkable scale, bring a new and better way of life for everyone while also delivering spectacular economic gains for some.

Are We Getting in the Way?

Against modern economic and commercial transformation, government policy that tries to manage the distribution of wealth while achieving full employment misses the point. Distributing what already is created while playing no role in its creation, but then criticizing and trying to limit that very creation is an absurd contradiction. Government policy, including onerous taxation and trade restrictions, appear misguided and certainly both inappropriate and in the face of bold new businesses and ongoing “creative destruction.”

Yes, You Are

While policymakers do not want to hear this, their policy tools are both anachronistic and ineffective relative to the power of a free market, unfettered capital allocation, and reward. Perhaps the majority of society does not want to hear that either, but it is how wealth is created for all, even if enormous wealth is created for some. Inequality is not a meaningful statistic and focusing on it only holds back progress and prosperity.