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A top venture capitalist thinks startups are causing inequality. He’s wrong.

Tim Graham/Getty Images

Silicon Valley philosopher king Paul Graham's essay on inequality has set tech Twitter on fire for the past few days. It's about as intensely loved and hated as any piece on the topic I can remember. Which makes sense, because it manages to jam some very good points together with some very bad ones.

Graham, a famed adviser to technology startups, appears to have experienced the inequality conversation as an attack on his life's work. His essay is thus more a defense of startups and their worth than it is an analysis of the trends driving inequality. More than anything, Graham seems terrified of policies that, in trying to combat inequality, would end up targeting the founders of tech companies.

This is a slightly bizarre interpretation of the debate. The inequality argument has emerged at a moment when Silicon Valley startups are lionized but protesters take to the streets to demand the dissolution of Goldman Sachs. If inequality were driven by technology startups, there would be much less concern over it.

But Graham's focus on startups as a cause and consequence of inequality is also empirically wrong. "Startups are almost entirely a product of this period [of inequality]," he writes, which is simply not true. For all the Silicon Valley hype, the startup rate has actually been declining as inequality has been rising.

Where Have All The Young Firms Gone?/US Census Bureau

In a separate (and, I think, more interesting and nuanced) essay, Graham argues that in the mid-20th century, there were startups, but they were very different in composition. "Educated people," he writes, worked for large corporations, because "there was practically zero concept of starting what we now call a startup: a business that starts small and grows big."

So perhaps that falling startup rate obscures a rise in the kind of startups that interest Graham. Even if that's true — Graham doesn't present data to prove it, but it certainly seems correct as a description of Silicon Valley trends  — it doesn't change the fact that there is no observable relationship nationally in recent decades between the rate of startup formation and inequality. I wonder whether Graham's perch in Silicon Valley isn't warping his analysis of what's going on in the rest of the economy.

There's a reason it was called Occupy Wall Street rather than Occupy Google

When you dig into the occupations of the top 0.1 percent, you find that "the incomes of executives, managers, supervisors, and financial professionals can account for 60 percent of the increase in the share of national income going to the top percentile of the income distribution between 1979 and 2005."

Some of that is certainly Silicon Valley executives. But it's the financial professionals that this conversation is really about.

You can see that in the timing. The debate over inequality doesn't coincide with either the rise of Silicon Valley (late '90s, and then again in the early 2000s) or even the rise of income inequality (1980s). It coincides with the aftermath of the Great Recession — a time when finance professionals crashed the global economy, immiserated millions of people, and managed to remain incredibly, infuriatingly rich. There's a reason it was called Occupy Wall Street rather than Occupy Google.

Baseline Scenario

By the time of the 2007 crash, financial sector profits accounted for about 35 percent of all corporate profits. These weren't startups. Indeed, the fear in the financial sector was over firms so ridiculously large that the government wouldn't permit them to fail.

"I know the rich aren't all getting richer simply from some sinister new system for transferring wealth to them from everyone else," Graham writes. In Silicon Valley, that's largely true. But if you lost your construction job because of the financial crisis even as a trader who bet on subprime bonds kept both his career and his bonuses, you've got good reason to think the rich are getting richer from a rigged system.

Graham tries to acknowledge this in a footnote. "Others will say I'm clueless or being misleading by focusing on people who get rich by creating wealth that startups aren't the problem, but corrupt practices in finance, healthcare, and so on. Once again, that is exactly my point. The problem is not economic inequality, but those specific abuses."

But this gets almost tautological. The inequality debate is driven by the belief that those kinds of abuses are disparate and widespread. People need a way to talk about the idea that economic gains are being shared unfairly and inequality is the word they've chosen to do it. Dismissing the source of their anger only leads you to miss the point of their critique.

Sweden has more startups and less inequality than America

An important point Graham makes is that while people are angry about income inequality, they usually prioritize fixing other problems. When it comes down to it, they really care about poverty, or social mobility, or median wages, or political power.

Consider two worlds. In one, the Gini coefficient — the standard measure of inequality — remains the same, but median wages are double their current level. In another, the Gini coefficient falls, but median wages are 10 percent lower and poverty is 3 percentage points higher.

Would anyone choose the second world? Bueller?

But having made that point, Graham spends much of his essay grappling with strawmen. Statements like "Ending economic inequality would mean ending startups" confuse the conversation. No one is talking about ending startups. No one is even talking about ending inequality. And you can certainly ameliorate inequality without destroying the ability to found new companies. Sweden, for instance, has a higher startup rate than America, and less income inequality — as do a number of other countries.

No particular level of inequality is inevitable

Graham's belief that you can't ease inequality without declaring war on technology runs deep. "I think rising economic inequality is the inevitable fate of countries that don't choose something worse," he writes.

He argues that the long fall in inequality in the 20th century was an anomaly driven by wars and government-backed oligopolies. He goes on to write:

The acceleration of productivity we see in Silicon Valley has been happening for thousands of years. If you look at the history of stone tools, technology was already accelerating in the Mesolithic. The acceleration would have been too slow to perceive in one lifetime. Such is the nature of the leftmost part of an exponential curve. But it was the same curve.

You do not want to design your society in a way that’s incompatible with this curve. The evolution of technology is one of the most powerful forces in history.

This is far too fatalistic. Modern societies have long figured out how to manage this curve. Technology makes individuals grow more productive, in part because they stand atop the knowledge and industrial base of their societies, and societies redistribute part of that wealth, in part because that's necessary to sustain the political stability and economic freedom required to protect those individuals.

There are difficulties and trade-offs inside this system, but they're manageable, and all in all, it actually works pretty well. The taxes the Silicon Valley elite pay in the 21st century are much, much higher than anything their predecessors paid in the 18th century, but somehow people still like inventing new things and getting rich.

There's no particular level of inequality that is inevitable, and it's both pessimistic and ahistorical — two qualities I don't tend to associate with Graham, who tends towards optimism and a strong grasp of history — to believe the drive towards technological progress is so flimsy that modest changes to the tax code or social programs will derail it.