On the Formation of Capital and Wealth: IT, Monopoly Power and Rising Inequality

Abstract

Our underlying hypothesis is that technological progress (even neutral) has a big effect on distribution, not only on growth, since rising waves of technical progress cause rising monopoly power. We test it by showing that, since the 1970's, information technology (in short IT) has caused rising monopoly power, which explains rising inequality, slow growth of wages and low level of investment since the 1970's. This monopoly power is legally protected by patent laws, intellectual property rights and by our policy which aims to promote innovations. Our reasoning proceeds in five steps. Step 1 examines surplus wealth - the difference between firm’s wealth (equity and debt) and capital employed. Surplus wealth rose from -$0.59 Trillion in 1974 to $24 Trillion in 2015 which is 82% of total stock market value, reflecting sharply increased monopoly power 1974 - 2015. In step 2 we test the hypothesis surplus wealth is associated with IT transformed firms, establishing an empirical link of IT with monopoly power. Step 3 is theoretical, explaining why theory shows we should expect these results, by studying IT properties that enable erection of barriers to entry and facilitate their maintenance and, once a monopoly power is established, these properties support expansion and consolidation of that power. In step 4 we show why monopoly power causes rising functional inequality and explain that the unique properties of IT also cause rising personal inequality. In step 5 we show that rising monopoly power explains more than rising inequality; it also explains other observed microeconomic phenomena. To carry this out we develop a general equilibrium model where firms have rising monopoly power. For simplicity of analysis monopoly power is exogenous since the link between technology and monopoly power is not essential here. Three independent methods estimate the share of monopoly profits in output to be about 21%-23% in 2015, rising from 0 in early 1980s. Using the model we prove that rising monopoly power lowers permanently equilibrium wage rate, investment, capital stock, output and consumption. In an economy with embodied technical change it also lowers the growth rate of the economy and its equilibrium interest rate.

Keywords: surplus wealth; Information Technology; monopoly pricing power; income inequality; wealth inequality; relative shares; monopoly surplus; monopolistic competition; technical change and TFP.

JEL Classification: D31, D33, D42, D43, D62, E22, E25, L1