Part II

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Chapter 6 Inequality and poverty

Historical data shows that rising national income will typically lower poverty

Distribution of national income also play an important role in reducing poverty.

Measuring inequality - what to look at

- Distribution of income as an indicator of inequality -- Income in poor countries is often difficult to measure

- Distribution of consumption -- Economists often prefer to look at household consumption rather than income, as consumption tend to be a better measure of household well-being.

- Distribution of wealth -- tends to be more unequal than the distribution of income or consumption

Simplest way to depict an income distribution would be to draw its frequency distribution.

The frequency distributions have a complex shapes and it is not easy to compare the degree og inequality both within and across countries from these shapes.

Lorenz curves and Gini coefficient

- two criteria for measuring and comparing inequality

- Size distributions tell us the share of national income received by different groups of population ranked according to their income

- An interesting and useful way of depicting graphically the size distribution of income via a Lorenz curve.

Lorenz criterion (for comparing income distributions)

- If the Lorenz curve for income distribution B lies to the right of the Lorenz for income distribution A, then distrubution B is more unequal than distribution A.

- If Lorenz curves cros they con not be cmpared using the Lorenz criterion.

Crossing Lorenz curves and Gini coefficient/index

- Crossing Lorenz curves can be compared by using the Gini-criterion

-Gini index collapses all information contained in the size distribution into a single number. This will obviously result in some loss of information about the underlaying distribution.

Kuznets curve

- Does economic growth cause inequality , or is it the other way round?

Kuznets/Lewis and others: Economic growth causes inequality in the early stages of development.

- Consider a poor country, largely dependent on agriculture. Assume also that the distribution of land is not "too" unequal. Income in this economy is expected to be fairly evenly distributed.

- As the economy starts to industrialize, income inequality will emerge. "Unproductive" surplus labour will move from agriculture to factories. Since supply of labour to factories is plentiful, industrial wage will remain low - and profits for factories owners will be high.

- Eventually, surplus labour will be exhausted and wages will rise due to competition for labour, profits will fall and income inequality will decline.

Kuznets Hypothesis

Inverted-U hypothesis: In the process of economic growth, income inequality will first rise and then decline.

Data on Gini index for different countries appear to be considered with Kuznets' hypothesis.

- Research shows that there is no discernable effect of growth on inequality.

Causes of inequality

Historically, income inequality has been associated with unequal distribution of productive assets among the population.

South Africa - a country with extreme high income inequality - also has a highly unequal distribution of land ownership.

Most countries in South America have both highly unequal land and income distribution.

Historical inheritance laws, notably, primogeniture, prevalent in the west, meant that land qwnership remained highly concentrated across generations.

Large differences in income between people is a problem in itself - a moral/ethical issue

But more importantly we want to know if income inequality has consequences for saving, education, entrepreneurship, political stability, criminal activities, that is, if and how income inequality affects economic groth and development.

Some views:

High inequality means income/wealth is concentrated in the hands of a few. Rich, with a lot of savings, can contribute to large/rapid capital accumulations (investments) neccessary for growth.

When inequality is high, many poor, especially in the agricultural sector, will not be able to undertake simple productivity, increasing investment due to lack of savings. Some of these investments are inexpensive and give high returns. A little less inequality could make many of these investments affordable.

Political economy - In highly unequal society, the rich can buy political influence. The rich can affect government budgets allocations for education, health care, trade policies, etc...

F.ex. in favour for universities (rather than primary education), urban hospitals rather than basic healt care in rural areas. This can affect economic growth negatively.

The net effect of these hypothesis is, whether inequality affects growth, is an empirical question.

How to measure poverty?

A measure of wellbeing/welfare: What do we measure in order to determine if a person is poor. (what is a measurable indicator of individual poverty?)

Poverty line: What seperates the poor from the nonpoor

Size or extent of poverty for the society: How do we measure the extent or magnitude of poverty in a country/society?

1. A measure of welfare

Try to say something of the persons life situation- levels of wellbeing, unfulfilled needs, uncertainty about the future.

Poverty can be measured as the lack of freedom to live a worthy life. Lack of: economic resources, health, education, democratic rights, freedom to form or join organizations.

Relative poverty: one's own income/consumption relative to that of others in the society will determine relative poverty.

In rich countries, poverty is defined in terms of relative income

In poor countries one is concerned with absolute economic poverty. It is very often connected to nutritional requirements of individuals. Those who use more than 75% of their income just to satify basic needs are thought to live in absolute poverty.

2 Poverty line

Having decided on what to measure in order to determine if one is poor or not, we need to define a threshold or a line that will seperate the poor from the nonpoor. Defining the line can be difficult.

For rich countries a common measure for relative poverty is to characterize those who earn less than a given fraction of the average income as poor.

The poverty threshold for poor countries: those use more than 70 - 80% of income on basic necessities are poor.

To get a measure of global poverty we can use PPP-adjusted dollar income to compare living standard or poverty across countries.: 1$ a day etc...