The inheritance of wealth and social mobility

Many of the papers are covering the new Greg Clark paper showing that social mobility isn't quite as fast as some think. But it has to be said that the paper isn't quite showing what people think it does. It is true that the intergenerational elasticity of wealth inheritance is 0.7-0.75 as the paper defines it. But this isn't quite the same as saying that that wealth is inherited. To understand the point imagine that it is purely wealth itself that is inherited. People now are rich because their forefathers were rich and that's the only reason. OK. But that's not what this paper has proven in the slightest.

What this paper has shown is that the children (and male children only, as they're tracking surnames) of people who die rich are highly likely to die rich. That means that there is a correlation between being the child of a rich man and being a rich man. It does not show that that richness comes from having inherited the wealth.

Consider this example that is used:

Joseph Bazalgette was responsible for building the world's first sewer system in London in the 19th century, the Pepys family tree contains noted diarist Samuel Pepys, and John Bigge was a judge and royal commissioner.

They found that, compared to their relatives in 1850, those living with that surname today are almost certain to have amassed fortunes well beyond the reach of the average Briton.

For example Sir Peter Bazalgette, the great-great-grandson of Sir Joseph, is the founder of Endemol television production company which created Big Brother and Deal or No Deal.

The company was floated on the Dutch stock exchange in 2005. It trebled in value and was sold for £2.5billion in 2007.

There's a number of different options available to us to explain this. That Sir Peter inherited wealth and was thus able to invest in something that was a further success. Someone who had not inherited could not have done this perhaps. Sir Peter inherited a social position that meant he was able to have such an entrepreneurial success. Or Sir Peter had a privileged education that enabled him to do so and so on. But it's also possible that there's an entirely different explanation, that Sir Peter inherited something else that enabled his success.

It is, after all, indubitably true that intelligence is inheritable. The very concept wouldn't have arisen through evolution if that were not true.

We can even tie this in with earlier work by the very same Greg Clark. In a Farewell to Alms he makes the point that what really enabled the Industrial Revolution etc was that those who were wealthier, had those bourgeois values that created higher incomes, had more surviving children than those that didn't. And thus over the centuries those values spread further down the income bands as the descendants overwhelmed (and there's an argument there about whether it was genes or cultural education) the genes of those who did not start out with these views. Essentially his eariler argument is that it was inheritance of being bourgeois that mattered.

We're going to have an awful lot of shouting in the next week or two about this new paper. And we're prefectly willing to agree with the concept (no, this does not mean we think it necessarily true, just that we're willing to take it as a working assumption and see where it goes) that something or other is being inherited leading to the same sorts of people getting to the top in each subsequent generation. But everyone's going to have to be extremely careful in trying to tease out exactly what it is that is being inherited.

From the information we've got here it's not immediately obvious that it is wealth itself that is being inherited. After all, as the paper itself notes, there's been many different taxation regimes upon both wealth and income over the hundreds of years they study. If it were purely cash that made the difference then the results would not be so consistent over this time. And if it's something else that is being inherited then even 100% death duties aren't going to make much, if any, difference.

Social mobility is increasing but people are unhappy about this for some reason

This an extremely puzzling complaint:

More people are moving down, rather than up, the social ladder as the number of middle-class managerial and professional jobs shrinks, according to an Oxford University study.

The experience of upward mobility – defined as a person ending up in an occupation of higher status than their father – has become less common in the past four decades, the study says, leaving children of those who benefited from it with worse prospects than their parents had.

Dr John Goldthorpe, a co-author of the study and Oxford sociologist, said: “For the first time in a long time, we have got a generation coming through education and into the jobs market whose chances of social advancement are not better than their parents, they are worse.”

Social class is not an absolute matter, it is a relative matter. Who is on top can change along with the structure of society: we've had versions where it's the very religious that are on top, where the good warriors are, where those with lots of land are and so on. But while which class it is has changed it's always been entirely obvious that they're of a "higher" class than the others. A relative matter rather than an absolute one.

Given this it is therefore also obviously true that if we've an increase in downward social mobility we must also be seeing an increase in upward social mobility. Because that social class thing is a relative, not an absolute, matter. And normally people cheer, or at least people like The Guardian cheer, when there's an increase in upward social mobility.

Can't think why they're not here.

Why does the son rise?

John Cochrane recently gave a speech where one of the main threads involved talking down the importance of income and wealth inequality. Poverty, and generally not having as much as we would like are bad, he says, but is there anything bad about inequality per se? That is: is there at least one respect in which things would be better if some people who are very well off were made worse off? He argues that there isn't, or if there is, it is of only trivial importance, and outweighed by all of the costs of actually 'doing something' about inequality.

In a response on Bloomberg View, Noah Smith argued that economists should respect people's actual preferences, and since people show strong preferences against wealth and income inequality, we should respect them. He uses the example of how people prefer to take nothing over free money when they are made offers they perceive as 'unfair' in the Ultimatum Game. On top of that, he says, inequality leads to socio-political unrest, which we can all agree is very bad and costly, citing a 1993 paper.

Finally, Tony Yates adds some extra arguments on his blog. He says luck has a big role to play in success, but success can also buy some of the non-luck factors in success (e.g. education), meaning that it can 'set off path dependence'—according to Yates this can lead to inefficient outcomes by distorting the allocation of talent. He says inequality reduces public good provision (e.g. education—although I'm not sure that is really a public good). And he says that inequality might make 'crony capitalism' more likely.

I've written twice about equality before: once saying that Rawlsian-style justice demands inequality of wealth/income in certain very relevant circumstances; another time arguing that Hayekian-style information economics militates towards equality of wealth. There are lots more things to say in this debate, but here I intend to take issue only with one of Yates' claims: the idea that luck + path-dependence means inequality is passed down through the generations (I can't see why exactly he thinks this distorts the allocation of talent, but here I'm only questioning the mechanism).

Luck is certainly a huge factor in success. And people do pay big money for better education to try and make sure their kids are more likely to succeed. But does this work? Let's look at some studies. Random selection into a better school in Beijing has no effect, random selection into a better school in Chicago has close to no effect, random selection into a better Kenyan school has no effect, nor does it in Missouri, nor in New York City. Once you control for student characteristics, Australian private schools didn't outperform state schools on the 2009 PISA. Conscription into extra education didn't much affect life outcomes in late 1970s France. In 1950s England, going to an elite school made no difference to a youth's job market outcomes. The literature is huge and there are many many more examples.

And other literatures point to the same conclusion. For example, we now know that the heritability of intelligence increases through life (to hit around 50-90% in adulthood), while 'shared environment'—upbringinging, parental inputs and schooling—falls to around zero. This is supported by traditional twin studies, twins reared apart studies, adoption studies, and now whole-genome analysis.

So it should not be surprising that it's actually really really really really hard to make sure your descendants stay rich with the proceeds of luck. In fact, we know that that's not why the descendants of the rich often are rich because we have a couple of pretty good experiments showing it! For example:

We track descendants of those eligible to win in Georgia’s Cherokee Land Lottery of 1832, which had nearly universal participation among adult white males. Winners received close to the median level of wealth – a large financial windfall orthogonal to parents’ underlying characteristics that might have also affected their children’s human capital. Although winners had slightly more children than non-winners, they did not send them to school more. Sons of winners have no better adult outcomes (wealth, income, literacy) than the sons of non-winners, and winners’ grandchildren do not have higher literacy or school attendance than non-winners’ grandchildren. This suggests only a limited role for family financial resources in the formation of human capital in the next generations in this environment and a potentially more important role for other factors that persist through family lines.

The same is true for modern lottery winners—the truest example of pure luck in success. And it took only two generations for the descendants of slaves to catch up with the much more advantaged & wealthy free blacks. Whether rich parents split an inheritance between eighteen kids or one, their grandkids are equally rich. Basically luck mixed with path dependance explains almost nothing.