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Explaining the Rolls-Royce Wealth Divide

Have those who buy luxury items truly earned their wealth...?

LUXURY carmaker Rolls-Royce's 2012 financial results must have brought new worries to those concerned with the growing wealth divide, writes David Howden for the Cobden Centre.

Rolls-Royce reported a third consecutive annual sales record, the best results in its 108-year history. Priced at £170,000 for its cheapest model, it is safe to say that these sales were reserved for a small subsection of the wealthiest, perhaps the 0.01 percent. 

While the ongoing recession has left the masses paying off their debts and enjoying less consumption than before, the so-called one percent continue reaching for new heights and excesses.

What explains this growing divide, especially concentrated in the hands of a very few?

One place to look could be in the successes of businessmen, earning large profits by serving customers especially well. While there may be a handful of entrepreneurs weathering the financial storm well, the recession is wearing on the majority of the business community. It also doesn't appear that these lavish displays of wealth are being made by the astute business community.

Another place to look is whether there is a privileged position or relationship that is enabling some to succeed at the expense of others. Such a cause would have the markings of some people earning large profits with seemingly little conventional work at the expense of the well-being of the masses (in contrast to the normal way of earning profits – hard work aimed to make the masses better off).

Last year the Bank of England increased the supply of notes and coins by about 4%. This increase provided a buyer for UK gilts that might not otherwise exist, reducing borrowing costs for the government. Yet while some politicians might be living the high life, the real culprit is found within the banking system.

With that increase in base money, the banking system was able to increase its supply of credit – issued in the form of loans to borrowers against the deposit base. It was able to do this by a legal privilege bestowed on it by the government, in the form of fractional-reserve banking. By issuing loans in excess of the amount of their assets, banks are able to effectively create something from nothing. These loans are used by borrowers, and have the result of pushing up prices. Inflation harms savers – those whose hard work was rewarded in the past but is now compromised as rising prices reduce the purchasing power of these funds. 

On the other hand, borrowers are able to use these newly created funds for purchases. Since they gain access to funding at one set of prices and then, through their spending, raise these prices, borrowers of this fractional-reserve created money relatively impoverish the rest of us.

Instead of earning profits the old-fashioned way, it is now advantageous for people to borrow money from the banking system and spend it as quickly as possible. The only problem is that most of us cannot do this. Since the bank is concerned with getting paid back, it will only loan money to the credit-worthy, or connected. The one percent, relatively unaffected by the recession compared to Main Street, is able to gain access to new exclusive profits.

That these profits should be funneled into displays of wealth like luxury autos should come as no surprise.

Yet Rolls-Royce is not alone in this growing wealth divide. Last year I discussed how high-end art and real estate markets are flourishing. BMW (Rolls-Royce's parent company), Audi, Mercedes-Benz and Jaguar Land Rover also all reported record luxury sales in 2012. Automotive research consultancy JATO Dynamics reports that premium and luxury car sales have grown by 13% over the past four years, despite talks of austerity and recession filling the financial press. Bently recently announced that its 2012 sales increased 22% compared to the year before.

The mass-market automotive brands are in a much starker position. Battling over price points to attract price-sensitive customers, high taxes and rising unemployment are endangering sales. Indeed, "[t]here is a disconnect between the mega-rich and the rest of us" according to Rim Urquhart, an analyst at IHS Automotive. With the forthcoming introduction of Roll-Royce's ultra-luxury model, the trend shows no sign of abating. Aimed at just hundreds of units of sales instead of the thousands for its current model, Rolls-Royce is aiming clearly at a different segment of the market than it is accustomed to – one geared toward the one percent of the one percent.

For those upset at these ostentatious displays of wealth and the growing divide they signify, blame should be properly placed. In some cases these purchases and lifestyles are the result of hard work and the reward of sacrifice. For many, however, the growing divide is a "reward" for being in a privileged position within the financial industry. The fractional reserve system enables undue profits to some at the expense of others. Scrutiny over the Bank of England (and other central banks) and their continued inflationary gifts to the financial system would do much to rectify this growing imbalance.

Time to Buy Gold?...

Built on anti-Corn Law radical Richard Cobden's vision that "Peace will come to earth when the people have more to do with each other and governments less," the Cobden Centre promotes sound scholarship on honest money and free trade. Chaired by Toby Baxendale, founder of the Hayek Visiting Teaching Fellowship Program at the London School of Economics, the Cobden Centre brings together economists, businesspeople and finance professionals to better help these ideas influence policy.

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