Yet, as inequality has widened and concerns about it have grown, the competitive school, viewing individual returns in terms of marginal product, has become increasingly unable to explain how the economy works. In the west in the post-second world war era, the liberal school of thought has dominated. Work on exploitation arising from asymmetries of information is an important example. Scholars in this area have focused on what gives rise to power, how it is maintained and strengthened, and other features that may prevent markets from being competitive. The second school of thought takes as its starting point “power”, including the ability to exercise monopoly control or, in labour markets, to assert authority over workers. Scholars of inequality thus focused on the determinants of the distribution of assets, including how they are passed on across generations. Differences in income were then related to their ownership of “assets” – human and financial capital. Capitalists are rewarded for saving rather than consuming – for their abstinence, in the words of Nassau Senior, one of my predecessors in the Drummond Professorship of Political Economy at Oxford.
It is important to understand both, because our views about government policies and existing inequalities are shaped by which of the two schools of thought one believes provides a better description of reality.įor the 19th-century liberals and their latter-day acolytes, because markets are competitive, individuals’ returns are related to their social contributions – their “marginal product”, in the language of economists.
The other, cognisant of how Smith’s brand of liberalism leads to rapid concentration of wealth and income, takes as its starting point unfettered markets’ tendency toward monopoly. One, emanating from Adam Smith and 19th-century liberal economists, focuses on competitive markets. For 200 years, there have been two schools of thought about what determines the distribution of income – and how the economy functions.
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