Pareto's Principle

By Deniz Bras Aydin

In the UK, the six richest people own as much wealth as the poorest 13 million. This is a fact that many find unbelievable and morally wrong; and ultimately it’s capitalism's fatal flaw. The idea that around merely 100 people in the UK could likely help bring millions out of poverty whilst still maintaining a high level of wealth and income is one that portrays an image of greed, immorality, and injustice in society. However, there are theories which look to provide a deeper explanation as to why this has happened, with one being Pareto's Principle.

Pareto's Principle states that 80% of the consequences emerge from 20% of the causes, and this is true across (almost) any creative endeavour that humans engage in which there is variability in individual production. This results in the majority of people producing nothing, or close to nothing. A small minority of the population produce a fairly significant amount and thus are successful. However, a hyper-minority end up producing an immense amount, and so end up highly successful - rich. The image below is an example of the geographical representation of the Pareto Principle, in this case, for the wealth distribution of married households headed by 60-69 year olds.

Here is a simpler example of its manifestation: if a class of 100 people were set a task of creating the best presentations they could as a group, 80 students would only contribute towards 20% of the presentation, whereas 20 students would contribute towards 80%. This then provides the basis from which we can see why there is inequality, to a significant extent at least.

Pareto's Principle can also be said to have been derived from the New Testament statement known as the Mathew Principle: "To him who has, more be given, and he will have abundance; but from him who has not, even what he has will be taken away".

This explanation can also be used to explain, to some extent, why capital accumulates in the hands of fewer and fewer people. Whenever a domain of production is set up, which Is necessary in any society in order to produce goods and services desired and required by people, competition is created, and so in the long run, Pareto's Principle will take effect and cause inequality. Obviously, we want to reduce inequality in society, and so one of the first answers to this was to increase the number of fields of production. For example, maybe you fail as a football player, but you excel in economics, and so you have a greater chance of success by becoming an economist, as it is a separate competitive landscape to becoming a footballer. However, even this has a flaw, in that there is a correlation between the successful people. An example of this is that whilst modelling and being a footballer may at first have been two separate competitive landscapes, those who were successful in football know what is required for success in general, and are then at an advantage when it comes to being a successful model. They can also use skills and/or qualities, such as fame, to boost their chances of being successful in another competitive landscape. One example of this is Donald Trump being a successful businessman, which then gave him a significant advantage in becoming US president in 2016.

Essentially, when one good thing happens to you, that increases the probability that another good thing happens to you, and that ends up spiralling and ends up with a hyper-minority having a high proportion of the money/success, potentially across multiple domains of production. The argument of the free marketer is that if they are able to produce a successful good or service, which the market gravitates towards causing them to be successful, why is that wrong? And whilst that is a debate for another day, it does not address the problem of mass poverty due to how many people end up unsuccessful across a high number of creative endeavours.

This then leads us into a potential other situation, which is that we can try to make unsuccessful people more successful by looking at what they do wrong compared to those who are successful. Generally, the biggest predictors of success are IQ and conscientiousness, which are factors that can, and usually are, very difficult to change. However, one of the other big predictors of success is in fact malleable, and that is essentially deciding what you want to be successful in and working hard towards that. This manifests itself in modern society as specialisation, which as economics teaches, usually results in higher productivity levels, and allows for greater levels of success generally. Now, if we are able to combine the first and second points, by creating enough domains, to the extent that with specialisation, everyone can be successful , then we can make significant leeway towards more people being successful and less people being stuck in poverty.

However, the ultimate flaw in all of this is that, in every society ever created, there has always been inequality. That isn't to say that we should not strive towards equality of opportunity, but rather, we should always be wary that, as individuals have freedom to make their own choices, inequality of outcome will always exist. Pareto's distribution can be used to show where inequality stems from, and whilst there are certainly other explanations (like greed), the Pareto Distribution is one of the few that can be scientifically tested, and shown over time, making it a fascinating field of discussion.

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