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John Fullerton’s white paper, Regenerative Capitalism, lists eight principles critical to systemic economic health. The Capital Institute’s research group, Research Alliance for Regenerative Economics (RARE), uses recent scientific advances—specifically, the physics of flow —to create a logical and measurable explanation of how these principles work to make or break vitality in the human networks of which economies are built. Here we explain why too much inequality is more than a moral problem. In fact, it drives economic systems towards collapse by sucking the life-blood out of real economies worldwide.
According to a recent study by Oxfam International, in 2010 the top 388 richest people owned as much wealth as the poorest half of the world’s population—a whopping 3.6 billion people. By 2014, this number was down to 85 people. Oxfam claims that, if this trend continues, by the end of 2016 the top 1 percent will own more wealth than everyone else in the world combined. At the same time, according to Oxfam, the extremely wealthy are also extremely efficient in dodging taxes, now hiding an estimated $7.6 trillion in offshore tax-havens.
Why should we care about such gross economic inequality? After all, isn’t it natural? The science of flow says: yes, some degree of inequality is natural, but extreme inequality violates two core principles of systemic health: circulation and balance.
Circulation represents the lifeblood of all flow-systems, be they economies, ecosystems or living organisms. In living organisms, poor circulation of blood causes necrosis that can kill. In the biosphere, poor circulation of carbon, oxygen, nitrogen, etc. strangles life and would cause every living system, from bacteria to the biosphere, to collapse. Similarly, poor circulation of money, goods, resources and services leads to economic necrosis—the dying off of large swaths of economic tissue that ultimately undermines the health of the economy as a whole.
In flow systems, balance is not simply a nice way to be, but a set of complementary factors—such as big and little; efficiency and resilience; flexibility and constraint—whose optimal balance is critical to maintaining circulation across scales. For example, the familiar branching structure seen in lungs, trees, circulatory systems, river deltas and banking systems (Fig. 1) connects a geometrically constant ratio of a few large, a few more medium-sized and a great many small entities. This arrangement, which mathematicians call a fractal, is extremely common because it’s particular balance of small, medium and large helps optimize circulation across different levels of the whole. Just as too many large animals and too few small ones creates an unstable ecosystem, so financial systems with too many big banks and too few small ones tend towards poor circulation, poor health and high instability.
In his documentary film, Inequality for All, Robert Reich uses virtuous cycles to clarify how robust circulation of money serves systemic health. In virtuous cycles, each step of money movement makes things better. For example, when wages go up, workers have more money to buy things, which should increase demand, expand the economy, stimulate hiring and boost tax revenues. In theory, government will then spend more money on education which will increase worker skills, productivity and hopefully wages. This stimulates even more circulation, which starts the virtuous cycle over again. In flow terms, all of this represents robust constructive flow, the kind that develops human and network capital and enhances well-being for all.
Of course, economies also sometimes exhibit vicious cycles, in which weaker circulation makes everything go downhill—i.e., falling wages, consumption, demand, hiring, tax revenues, government spending, etc. These are destructive flows, ones that erode system health.
Both vicious and virtuous cycles have occurred in various economies at various times and under various economic theories and policy pressures. But, for the last 30 years, the global economy in general and the American economy in particular has witnessed a strange combination pattern in which prosperity is booming for CEOs and Wall Street speculators, while the rest of the economy—particularly workers, the middle class and small businesses—have undergone a particularly vicious cycle. Productivity has grown massively, but wages have stagnated. Consumption has remained reasonably high because, in an effort to maintain their standard of living, working people have: 1) added hours, becoming two-income families, often with two and even three jobs per person; and 2) increased household debt. Inequality has skyrocketed because effective tax rates on the 1 percent have dropped (notwithstanding a partial reversal under Obama), while their income and profits have risen steeply.
We should care about this kind of inequality because history shows that too much concentration of wealth at the top and too much stagnation everywhere else indicate an economy nearing collapse. For example, as Reich shows (Fig. 1a & b), both the crashes of 1928 and 2007 followed on the heels of peaks in which the top 1 percent owned 25 percent of the country’s total wealth.
What accounts for this strange mix of increasing concentration at the top and increasing malaise everywhere else? Putting aside the parallels to 1929 for a moment, most common explanations for today’s situation include: the rise of technology which makes many jobs obsolete; and globalization which puts incredible pressures on companies to lower wages and outsource jobs to compete against low-wage workers around the world.
But, while technology and globalization are clearly creating transformative pressures, neither of these factors completely explains our current situation. Yes, technology makes many jobs obsolete, but it also creates many new jobs. Yet, where the German, South Korean and Norwegian governments invest in educating their workforce to fill those new jobs, the American government has been cutting back on education for decades. A similar thought holds for globalization. Yes, high-volume industrialism—that is, head-to-head competition over price of mass-produced, uniform goods—leads to a race to the bottom; that’s been known for a long time. But in The Work of Nations (2010), Robert Reich also points out that the companies that are flourishing through globalization and technology are ones pursuing what he calls high-value capitalism, the high-quality customization of goods and services that can’t be duplicated by mass-produced uniformity at cheap places around the world.
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