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Wealth Inequality: The Good and the Bad

The following is a transcript of this video.

Like the entirety of the natural world which is characterized by a great degree of diversity, the human species is no different. Each person possesses a multitude of differences with respect to all others – be it physical characteristics, mental capabilities, genetic predispositions, the family one is born into, or the part of the world they inhabit.

The fact that humans are so different has produced considerable benefits, for example it makes possible the division of labor. The division of labor arises as differences in innate capabilities and personal preferences make some people better at accomplishing certain tasks than others. By being able to focus on the production of one or at most a handful of goods, while being supplied with the overwhelming majority of their needs by the labor of others, the division of labor increases productivity immensely.

Attempting to stamp out the inequality of physical and mental characteristics which makes possible the division of labor would be absurd. But with that said there are aspects of human life in which increasing equality is viewed as desirable. In this video we will examine two types of equality that are promoted in contemporary society, namely economic equality, which is the call for decreasing the wealth disparity between the rich and poor, and equality before the law.

We will look at whether these two types of equality are compatible, explore what leads to wealth inequality, and discuss whether under certain conditions, the mechanisms that lead to wealth inequality can produce significant benefits to the poor and middle classes.

Of the two types of equality, equality before the law is the less controversial. Individuals, it is believed, should be subject to the same general rules of law and conduct regardless of their sex, race, ethnicity, occupation, or net worth.

Equality before the law contributes to social stability as the actions of others become more predictable. Furthermore, if all people are subject to the same laws it is less likely that laws of an oppressive nature will emerge. Oppression tends to arise when a class of people gain enough power to elevate themselves “above” the law, so to speak, and are able to avoid the oppressive laws they enact on others.

But an interesting question arises: if it is accepted that people are different in terms of physical and mental capabilities, and furthermore that given such differences it is desirable that they be treated equally before the law, is this compatible with calls for diminishing the inequality of wealth? As the philosopher and economist Friedrich Hayek explains, equality before the law and wealth equality are not compatible.

“From the fact that people are very different it follows that, if we treat them equally, the result must be inequality in their actual position, and that the only way to place them in an equal position would be to treat them differently. Equality before the law and material equality are therefore not only different but are in conflict with each other; and we can achieve either the one or the other, but not both at the same time. The equality before the law which freedom requires leads to material inequality.”

What is essential to recognize with respect to this passage is that Hayek is saying that in a society characterized by equality before the law, wealth inequality is natural and inevitable. But what about in a society where not everyone is treated equally before the law, but instead where some have elevated themselves “above” the law and gained privileges which help them in the acquisition of wealth?

To truly understand the wealth inequality debate, it is necessary to recognize that in an economy dominated by government intervention, such as exists today, there are two substantively different ways one can obtain large amounts of wealth – and only one is compatible with equality before the law.

These two routes can be referred to as pure market entrepreneurship and political entrepreneurship. Pure market entrepreneurs earn their fortunes by selling new, better or cheaper products on the market and do so without any assistance from the government. In other words, a pure market entrepreneur’s ability to earn money is directly related to their ability to please customers. This is in contrast to the political entrepreneur whose success is based on their ability to lobby and influence politicians who then use the power of the state to assist the political entrepreneur in the earning of a fortune. The actions of political entrepreneurs are incompatible with equality before the law as they are granted privileges unattainable to others.

As we will show in the remainder of this video, while both types of entrepreneurs can earn great fortunes, the actions of pure market entrepreneurs are beneficial to all members of a society, while political entrepreneurs are parasitic to a society.

The 20th century economist Ludwig von Mises, in his essay “Profit and Loss”, explains why the existence of rich people, who earn their fortunes through pure market entrepreneurship, is not a bad thing but rather contributes to a prospering economy:

“The riches of successful [pure market] entrepreneurs is not the cause of anybody’s poverty; it is the consequence of the fact that the consumers are better supplied than they would have been in the absence of the entrepreneur’s effort. . .The standard of living of the common man is highest in those countries which have the greatest number of wealthy [pure market] entrepreneurs. It is to the foremost material interest of everybody that control of the factors of production should be concentrated in the hands of those who know how to utilize them in the most efficient way.”

Building on Mises’s point, what is too often overlooked is that in a true free market economy (which does not exist today) large fortunes are made by serving the needs of others. The primary ways a pure market entrepreneur does this is “by introducing new and improved products, by finding ways to cut costs of production, and by keeping the relative production of various goods properly adjusted to the changing needs and wants of the consumers” (George Reisman).

In fact, in a free market, the largest fortunes are made by those who sell goods and services which improve the lives, not of an elite few, but of the much larger middle and lower classes. To quote Mises again:

“The very principle of [pure market] entrepreneurship is to provide for the common man. In his capacity as consumer the common man is the sovereign whose buying or abstention from buying decides the fate of entrepreneurial activities. There is in the market economy no other means of acquiring and preserving wealth than by supplying the masses in the best and cheapest way with all the goods they ask for.” (Ludwig von Mises)

In contrast to the pure market entrepreneur who must satisfy the consumer to obtain large amounts of wealth, political entrepreneurs obtain their fortunes by using the power of the state. This is done in a myriad of ways, including subsidizations or bailouts which amount to transfers of wealth from the masses to the connected few, or the creation of regulations and laws, which benefit established firms at the expense of potential new entrants. A further blatant, but sometimes overlooked way that political entrepreneurs obtain their wealth is by using government to pass and enforce laws to ban the sale of entire classes of goods. The most obvious example of this being the war on drugs which greatly enriches the political entrepreneurs of the pharmaceutical industry as well as those who supply goods and services to police and prisons.

These are just a few methods of how political entrepreneurs can use the power of the state to force people, under the threat of violence, to behave in ways against their choosing and in the process become extremely wealthy. To reiterate, the crucial thing to recognize is that unlike the pure market entrepreneur whose actions increase overall standards of living, the actions of political entrepreneurs make the majority of people worse off. Political entrepreneurs are not rewarded for their ability to serve the masses, but for their ability to lobby and influence politicians which greatly disrupts the wealth generating spontaneous order of a free market.

Some may think that the existence of political entrepreneurs justifies taxes on the rich, but a much better solution would be to eliminate the ability of governments to enrich the political entrepreneurial class in the first place. For it is not the rich per se that are the problem, but the ability to get rich by using the power of the state instead of by serving the needs of others. Furthermore, increased taxation just puts more money in the hands of the very politicians who have proved competent at enriching their cronies, but inept at helping the poor and middle classes.   

A free-market society, void of political entrepreneurs, would still have rich people and wealth inequality. But the important thing to recognize is that the disparity between rich and poor would be less obvious in a free-market society, than in a society where political entrepreneurs dominate. To conclude this video, we will quote a passage by the economist George Reisman which nicely illuminates this point:

“ . . .it is worth noting that economic inequality that is founded on economic freedom [i.e., the actions of pure market entrepreneurs] is accompanied by much less in the way of visible inequality than is economic inequality founded on the initiation of physical force [i.e., the actions of political entrepreneurs]. This is because . . . the economic inequality that is based on economic freedom, serves to raise the standard of living of all. As a result, under economic freedom, even the poorest strata of society consume substantial and progressively increasing quantities of wealth. Thus, the inequality that prevails is not one of a contrast between those who are starving, half-naked, and living in hovels, and those who are fat, clad in furs, and living in castles, as is the case under feudal inequality, for example. Rather it is an inequality between those who are rich enough to drive Chevrolet or Ford automobiles, and those who are rich enough to drive Cadillacs or Rolls-Royces.” (George Reisman, Capitalism)

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