Consumption redistribution

Scott Sumner has a beautifully simple critique of "income redistribution" over at TheMoneyIllusion (a blog which is often technically out of my league). Excerpt:

You can redistribute consumption from the top 1% and give it to average Americans working in a car factory, or a Walmart. But it’s an illusion to think you can redistribute investment from the top 1%, so that average Americans can have a higher living standard. Where do people think the car factory comes from? Or the Walmart building? BTW, this has nothing to do with trickle-down economics, a theory I reject. This is simple accounting. Money put into investment projects isn’t available to boost living standards for the lower classes, unless you don’t do those investment projects.

So what’s available to be redistributed? Basically consumption (including a modest amount of vanity charity.) And that’s it. Now come back to me with the consumption distribution data, and let’s see what that looks like. I predict that consumption inequality is far lower than income inequality. And that consumption inequality is rising at a far slower rate than income inequality. I’m not saying there’s no problem, but it’s way smaller that the progressives imagine, as the data they use is pure nonsense. Consumption inequality is economic inequality. Income inequality is . . . well it’s meaningless gobbletygoop.

I think for a lot of us, it's hard to understand how important capital is to the economy. Most of us probably aren't ever going to own significant amounts of capital. That's probably why it's difficult for us to understand how "income" is any different from "wages." We are inclined to think of income as representing the merit of an employee working faithfully at a steady job. For owners of large amounts of capital, this is not what income is. Income is simply a measure of the productivity of that capital, and it is not meant for mere consumption, but largely for investment in better capital.

It's investment in capital that adds to the wealth of a country. Consumption does not. This is one of the most crucial points which I'm proud to say I actually got from reading Wealth of Nations. I'm not economist, but I know my Adam Smith.

You don't have to read Adam Smith to understand this: If you buy a meal and eat it, you're going to be hungry again; you haven't gained any wealth. If you buy a car, now you have a way of getting to work so you can make more money; you've actually made your life easier, therefore you have more wealth. We are all better off in the long run when people make good investments in capital, because it makes it easier to obtain the things we need to consume.

Once we make this distinction between investment and consumption, then a progressive policy of redistribution can be carried out in a reasonable way. Sumner recommends doing away with all income taxes, both personal and corporate, and moving entirely to a VAT and a progressive payroll tax. We could use that money to support things like school vouchers, catastrophic health insurance, subsidized health savings accounts, and wage subsidies (no minimum wage required, and get rid of occupational licensing!).

If we're going to care for the poor in this country, we need to redistribute some resources; this I take to be a basic moral principle. But this need not come at the cost of hampering long term economic growth, which is in fact essential to improving the circumstances of the poor.

Update: Sumner has a post rigorously explaining why income from capital should not be considered equal to income generally. The link is here.