"Top Incomes in the Long Run of History" with Tony Atkinson and

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56Journal of Economic Literature, Vol. XLIX (March 2011)a partial restoration of capital incomes since1979.5. Seeking Possible Explanations:Theoretical Models andEmpirical SpecificationsFrom the data on the changes in the upperpart of the income distribution assembled forthese twenty-two countries, certain possibleexplanations stand out. We have drawn attentionto the falls in top income shares in countriesfighting in the First and Second WorldWars (and that some, but not all, noncombatantcountries, were less strongly hit or evensaw an increase in top shares). According toMoriguchi and Saez (2008), “the definingevent for the evolution of income concentrationin Japan was a historical accident, namelythe Second World War” (see figure 9). Lessmomentous, but still distinctive, was thecommodity price boom of 1950, which saw arise in top shares in Australia, New Zealand,and Singapore (see figures 8, 11). In thesecases, a single event is sufficiently large forus to be content with a single variable analysis.Moreover, there is unlikely to be reversecausality, with the fall or rise in shares causingthe wars or the commodity boom.In general, however, explanations arelikely to be multivariate and we are confrontedwith the task of seeking to separatedifferent influences. Piketty (2007) suggestedthat the database could be exploitedas a cross-country panel, and this approachhas been adopted by Roine, Jonas Vlachos,and Waldenström (2009) and Atkinson andLeigh (2007b). The former authors find,for example, that growth in GDP per headis associated with increases in top incomeshares and that financial developmentis pro-rich in the early stages of a country’sdevelopment. Financial developmentcould well induce activity to shift from theinformal to the formal economy, revealingincomes at least for the high skilled ratherthan inducing a jump in real incomes at thetop of the distribution.Multivariate statistical analysis may helpus disentangle some of the factors at work. Inparticular, a number of the studies, followingPiketty (2001, 2003), highlight the roleof progressive income taxation. But how canwe be sure that there is a causal path fromprogressive taxation to reduced top incomeshares? In the United Kingdom, high toprates of income tax were first introducedduring the First World War. Could these taxrates, and the reduction in top shares, not beseen as both resulting from third factors associatedwith the war and its aftermath, such asthe loss of overseas income? Statistical analysisseeks to separate out the independentvariation in different variables. For example,the United Kingdom was a combatant in theFirst World War but not the Netherlands. Itmay therefore be informative to compare thetwo countries, both of which had progressiveincome taxes. At the same time, thereare possible third factors. Both the UnitedKingdom and the Netherlands faced similarglobal economic conditions that may haveindependently affected top shares. In thesame way, policies other than progressivetaxation may matter. First World War taxincreases in the United Kingdom had beeninitiated by Liberal governments which pursuedother redistributive policies apart fromincome taxation such as measures to preventprofiteering in the First World War. Inthe recent period, the tax cuts of the 1980sin the United States and United Kingdomtook place under Reagan and Thatcher whoalso pushed for liberalization of capital marketsand privatization, both of which couldhave increased top income shares. Thereis also the possibility of reverse causality.The increases in top incomes as a result ofchanged executive remuneration policiesmay have increased political pressure forcutting top taxes. We need therefore a simultaneous,as well as multivariate, model.
Atkinson, Piketty, and Saez: Top Incomes in the Long Run of History57Statistical analysis can help us identifyindependent variation but it rarely provesfully conclusive. The conclusions that wedraw inevitably involve elements of judgement.Judgment may be influenced byhistorical narrative. Piketty reached his conclusionregarding the role of progressiveincome taxation in France after an extensivediscussion of the economic history ofFrance over the twentieth century. While itwould be reinforced by regression analysisin which the relevant tax rate variable hada highly (statistically) significant coefficientof a plausible magnitude, the conclusionwas based on a reading of the events of theperiod. In the same way, the individual studiesreviewed here provide each a historicalnarrative that in itself is part of the evidence.A number of studies, such as that on Japan,contain evidence from a range of sources:income tax data, wealth data, estate data,and wage data. Combining these disparatesets of information is not a purely mechanicaloperation and these narratives are ofcourse subjective, reflecting the standpointsof the authors. Again they cannot be definitive.But equally they cannot be dismissedout of hand and they play a significant rolein our summary of major mechanisms in thenext section.A second set of considerations that led tothe judgment concerning the importance ofprogressive taxation in France was based oneconomic theory, notably simulation modelsof capital accumulation. This brings us to thequestion as to how closely theoretical modelsof income distribution are linked to empiricaltests of different explanations. In the incomeinequality literature, this link has typicallybeen rather loose (see Atkinson and AndreaBrandolini 2006 for a survey). Theoreticalmodels are invoked, but to produce a list ofexplanatory variables rather than to generatean estimating equation. The functional formis not specified, so that it is not clear howthe explanatory variables should enter theestimating equation or what should be theform of the variable to be explained.5.1 Modeling Capital IncomesOne example of a clear link between theoryand empirical specification is the mostpopular model in the income distribution literature:the Kuznets inverse-U curve. Recallthat this curve is based on the structuralchange that takes place in an economy as itis transformed from largely agricultural (traditional)to industrial (modern). This modelhas, however, little to offer in the presentcontext. As witnessed by the U-shape patternsfor top income shares depicted onfigures 8–11, the inverse-U has little purchasein explaining top income shares. Asfar as top income shares are concerned, thebasic problem with the Kuznets inverse-Umodel is that it focuses essentially on laborincome, whereas it is clear that we need toconsider both labor and capital income, andtheir changing roles. Indeed it is with capitalincomes that we start, since historically theyaccounted for the bulk of top incomes.It is often overlooked that, in hisPresidential Address, Kuznets (1955) evokestwo “groups of forces in the long-termoperation of developed countries [that]make for widening inequality in the distributionof income” (p. 7). In addition tothe structural change explanation, he alsohighlighted the concentration of savings inthe upper income brackets and the cumulativeeffect on asset holding. Subsequently,James E. Meade (1964) developed a theoryof individual wealth holding, allowing foraccumulation and transmission of wealthvia inheritance. Stiglitz (1969) went on toshow, in a general equilibrium setting, thatwith equal division of estates at death, alinear savings process, and persistent differencesin earnings across generations,in the long run the steady-state distributionof wealth simply mirrors the distributionof earnings. To explain the extent of
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