Success and Luck - Thinking about the cause of growing inequality

English 【Research】 Economy Psychology

Though Thomas Piketty (2014), in his book “Capital in the twenty-first century”, pointed out the growing inequality in the process of economic growth, it is often criticized as not having theoretical support.

Why does inequality grow?

Kahneman (2011) pointed out that luck plays an important role in success, especially when it comes to huge success like Google or Apple. In his book, “Thinking fast and slow,” Kahneman wrote,

“Of course there was a great deal of skill in the Google story, but luck played a more important role in the actual event than it does in the telling of it” (p. 196)

This alone does not explain the growing inequality because everybody should have the same chance to gamble if this is the case.

I think the point is how many gambles they can do.

Let’s think about next question.

“Now you have a chance to flip the coin. If it is head, you will earn 1500 dollars but if it is tail, you will lose 1000 dollars. Would you do this?”

Standard economic theory would suggest that you should do this because the expected values is positive.

But behavioral economics would predict that people would not because of loss averse tendencies.

According to empirical studies, people would not accept this gamble because of loss aversion.

However, what if you can repeat this gamble 100 times?

Then, probably people would do it because you only need to get 41 times of heads to obtain net gain.

(40 heads and 60 tails is the break even point. 40×1500=60000, 60×-1000=-60000)

However, if you are poor, you cannot repeat this game because the unlucky loose in the first few tosses might mean bankruptcy or even starvation. On the other hand, for the rich, unlucky loose in the first few tosses just mean a bit of decrease in their asset.

Hence, the rich can increase the chance of success by gambling repeatedly.

(For example, Venture Capitals have this model. They invest on 100 startups, expecting that only one of them goes to IPO and it pays the entire investment.)

In sum, if success is largely due to luck and gambling brings about big wealth, repeating gambling might be the best strategy to be rich. Since the poor cannot repeat gambling because they cannot withstand failure, they have fewer chances to succeed.

This might be a partial cause of growing inequality.

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(A couple of memos)

The word “success” requires more detailed definition. In my intuitive idea, a small success is NOT largely due to luck. Effort can bring about small degree of success, in general.
Even the poor can challenge again and again, raising capital in the form of equity, not debt.

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References

Kahneman, D. (2011). Thinking, fast and slow. New York: Farrar, Straus and Giroux.

Piketty, T. (2014). Capital in the twenty-first century. Cambridge Massachusetts: The Belknap Press of Harvard University Press.