Income from capital is where the fun is

I’m half way through Piketty’s book but have a methodological criticism.In keeping with convention, Piketty classifies the income of top professionals such as managers as “income from labour” if it’s paid as salary. He classifies as “income form capital” only overtly financial income such as rents, dividends, capital gains on shares, etc. I agree in accounting terms but not in economic terms, and as such I feel Piketty’s conventional approach paints a more optimistic picture of the ratio of income from capital vs. income from labour than is actually pertinent.

Arguably it’s more correct in terms of economic analysis to treat upper middle class incomes, especially the incomes of managers and professionals in tech, pharma, banking, and other sectors with highly concentrated capital structures as deriving from capital, even if these people receive their income through salaries. The justification is twofold:

Firstly, if we also assume the conventional notion that salary for labour is compensation for one’s time, that implies the intrinsic worth of a top professional’s time is several times higher than that of an ordinary worker. That reveals an extremely discriminatory conception of human worth, which is also implausible. Much more likely, top professionals are highly compensated for something that they have, human capital, and not for yielding their Marxian capacity for labour. Arguments about diligence or laziness are about yielding a different capacity for labour, say 90 vs. 30 hours a week, and they may have some truth but however generously they don’t account for more than a 2x or 3x pay difference.

So the high pay of top managers and professionals must derive from a kind of human capital. What kind of capital would that be? I speculate it’s a mixture of skill and trust, with the major difference deriving from trust. Skill is things like being a good lawyer or a fabulous programmer, largely the result of practice and education. Trust is who you know and how you are perceived, and in particular the perception as to how faithfully you’ll serve the interests of capital. Trust, not skill, in my view is what distinguishes CEOs and VPs from mere mortals and what gets them invited and placed into these roles in the first place. But it is a resource. Trust is something that an elite enjoys and the multitude doesn’t automatically have, so it’s capital, not labour in the sense of capacity to do work.

The second justification is considering where the efforts of different kinds of waged employees go. The daily efforts of an ordinary worker, such a delivery driver, industrial worker, sales clerk, customer service attendant, and so on unequivocally go into production. That accords to the familiar production function of a firm, combining labour, capital, and other factors to achieve production. But crucially, the efforts of ordinary workers do not change the capital stock of the firm or the coefficients of the production function. In that sense labour is a dispensable commodity and its return scales linearly with the turnover of the firm all other things being equal. This activity, I argue, is correctly captured by the classical term “labour”.

The efforts of highly paid managers and professionals, in contrast, overwhelmingly go into capital formation. A Google employee who creates the company’s next innovation, a pharmaceutical researcher, or a financial deal maker are not contributing labour as an input into production. They work to increase the capital stock of the firm, and they do so qualitatively, so that the increase in the coefficients of the firm’s production function compounds exponentially. Top professionals are directly rewarded for their multiplicative effect on the production function, which arguably means their income should be properly classified as income from capital however the money is actually paid.

If we account for top professional incomes as incomes from capital as opposed to labour we will arrive, I think, at an even more alarming picture concerning the yield of capital vs. the yield of labour than Piketty already paints. And I think that truly reflects reality as we observe the relative bargaining powerlessness of capital (who cares if your strike if capacity to do work vastly outstrips demand) compared to the leverage enjoyed by the class of people who work in capital formation.

Beyond the economics, metaphysically it’s worth noting that all the good jobs, in the sense of initiative, sense of achievement, intrinsically rewarding activity, and so on today are in capital formation. Tech workers tend to have an optimistic view of the state of the world because, by and large, we work in capital formation, an experience that even at the lowest level is qualitatively different from those who truly work in production. All the fun jobs are in capital formation and that is a very serious problem in many dimensions.