Heterodox Box:
A post-Keynesian explanation of income inequality

Excerpted from Chapter 18, "Wealth and Poverty"

The belief that factors of production are paid the value of their marginal product has, like the economy itself, periods of boom and bust. Of late an "is" to "ought" transformation of this "functional distribution of income" seems to have hardened into dogma-or so, it would appear, if one listened only to mainstream neoclassical conversations. Since factors are paid what they're worth at the margin, they say, "inequality" is not something that one has to worry about: income levels, like interest payments, are "fair." But Post Keynesians have never believed it. Like Keynes himself, Post Keynesians show a primary care for unemployment, income, and the lot of the common person. And they believe that they have constructed plausible models of the economy that show how inequality is de facto generated by the structural characteristics of capitalist exchange. Distinguished Post Keynesians are many: they include Joan Robinson, Piero Sraffa, Abba Lerner, Michal Kalecki, Nicholas Kaldor, Hyman Minsky, Alfred Eichner, Paul Davidson, Jan Kregel, Victoria Chick, and Geoff Harcourt.

Our friend James K. "Jamie" Galbraith, inspired by Sraffa and Kregel, has summarized one version of the Post Keynesian response to neoclassical distribution theory.

"Consider a simple setting," Galbraith begins in typical model-making fashion, "an economy with one production factor (labor) and firms with identical rising marginal production costs, but distinct [product] markets. One firm faces a competitive, perfectly elastic demand curve and [sets] prices at marginal cost. [A second] firm faces a downward-sloping demand curve and sets output so that marginal revenue equals marginal cost, with price taken from the corresponding point on the demand function . . . The second firm enjoys a degree of monopoly equal to the inverse of the elasticity of the demand function, per Abba Lerner (1934), and a monopoly return [of the standard P-MC times Q type]. Since this model has no capital, there is no profit either. The monopoly return must be distributed to the sole factor of production, namely labor: it is a firm-specific labor rent. The distribution of income therefore depends entirely on the relative degree of monopoly power (Galbraith, p. 36)

Ziliak: What do you think? Does market structure create inequality?

Klamer: I think so; the model shows that firms with power have a big say on who ends up with what level of income. One should take it further, though, and ask, Where does monopoly power come from? The government? And how much is too much, from the point of view of income distribution?

McCloskey: I say it's incomplete. For example, the model doesn't admit as it should that the U.S. economy exhibits very little monopoly power. So again, who cares about the distribution question?

Rodney: I think it's great and I'd like to know more about the Post-Keynesian way of thinking.

Source: James K. Galbraith, "The distribution of income," in R. Holt and S. Pressman, eds., A New Guide to Post Keynesian Economics, Routledge, 2001, pp. 32-41; J. Kregel, "Income distribution," in A. Eichner, ed., A Guide to Post-Keynesian Economics, M.E. Sharpe, 1978, pp. 46-60; G. Harcourt, Some Cambridge Controversies in the Theory of Capital, Cambridge University Press, 1973. Also see: A.B. Atkinson, The Economic Consequences of Rolling Back the Welfare State, CES (Munich) and The MIT Press, 1999.