Returns to Labor vs. Financial Ownership

Arjun Jayadev

In the wake of the Great Recession, there has been substantial interest in the causes of inequality and the potential impacts of rising inequality on macroeconomic fluctuations. For the most part these examinations have approached the issue through the consideration of interpersonal income inequality.

This noted, there is a long tradition of Classical, Post-Keynesian and Kaleckian approaches that have long maintained the centrality of income distribution. These have focused primarily on the factor distribution of income –the share of income going to the various factors- as being key to understanding macroeconomic dynamics as well as inequality. Some work in this tradition additionally distinguishes the income going to ‘rentiers’ from that going to capitalists -breaking out, that is, returns to ownership of financial capital vs. physical capital. Given the ongoing discussions of widening inequality and the role of the financial sector in this propelled by the occupy movement this is an increasingly important issue.

How have returns to ownership of financial capital changed relative to returns to labor? This is something that has been quite understudied, despite some empirical work on the rise of the rentier share. Researchers working on the political economy of financialization suggest that the advanced economies entered a new era of accumulation around 1980, in which finance came to be dominant.  Policy changes that have contributed to these shifts include a greater commitment to disinflation, interest rate deregulation, and greatly increased capital mobility, which in turn have increased the power of the financial sector while simultaneously reducing that of labor. Partly as a result, returns to financial elites have been growing much faster than returns to the rest of the population.

The figure below gives some account of the plausibility and importance of these narratives. The figure depicts the real rentier income in the U.S economy (i.e. real net interest payments plus real realized capital gains plus real net dividends normalized to 100 in 1954). It compares this with the real labor income over the period (real compensation of employees normalized to 100 in 1954). All data are from the flow of funds and the office of tax analysis, department of the treasury.

Between the 1950s and late 1970s the real rentier income grew slightly faster than real compensation of employees. Between 1980 and 1990 it began to grow much faster, consistent with the narrative of a change in patterns of accumulation after 1980. In the early 1990s, there was a reduction of real rentier income in the 1990s recession and once again in the early 2000s. But in between these periods, there were sharp rises. Real rentier income reached its peak in 2007 before subsiding slightly. By contrast, real compensation of employees continued throughout the period to grow relatively steadily.  Over the period, real returns to labor grew about five times but real rentier income grew eleven times with the largest divergence occurring after 1980.

The picture is only suggestive, but intriguing. Examining the returns to the activity of labor (an important and primary source of income for the vast majority of the population) versus returns to ownership (a more important source of income for the wealthy) provides another lens with which to examine how the benefits of economic growth and the losses from stagnation have been distributed. It is almost certain that some part of the rise in interpersonal inequality can be simply explained by changing returns to factors and as such, it deserves to be considered in the mix of widely known causes.

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