Micro Economics Chapter 20 , The Distribution of Income by (Nouman Khilji)

CHAPTER 20
THE DISTRIBUTION OF INCOME
Presented by:
Noman Khelgi
Tooba Riaz
M.Anwar
Kiran Kiyani

OUTLINE
 Economic inequality in our society
 Problems in measuring economic inequality
 Governmental role in redistributing income
 Policies for helping poor families escape poverty

Inequality
There are two types of inequality
1. Wealth inequality
2. Income inequality

Inequality
Wealth inequality
 Unequal distribution of wealth
 E.g global wealth= almost $260 Trillion
 North America + Europe > 20% of the world population and has
67% of the wealth.
 China > 20% of the world population, has 8% of the wealth.
 India+Africa=30% population of the world has 2% of the wealth.

Inequality
Income Inequality
 Unequal distribution of income
 High skills high income, low skills low income
 The very rich are now a lot richer, but the very poor are doing a
little better

Income Distribution
 Smoothness or equality with which income is divided among
members of society
 If every person earns equal amount of money the income
distribution is perfect, if not then income distribution is perfectly
unequal
 Income distribution falls in the middle of equal and unequal

Measuring equality/inequality
 Often measured by how much income is earned by
different segments of population
Average IncomesPopulation
segments
$110000The top 20%
$80000The 2nd 20%
$50000The 3rd 20%
$24000The 4th 20%
$10000The bottom 20%

Measuring equality/inequality
Total income = 274000
Cumulative
Percentage
Percentage incomeSegments
3.6%3.6%Bottom 20%
12.4%8.8%2nd 20%
30.6%18.2%3rd 20%
59.8%29.2%4th 20%
99.9%40.1%Top 20%

Gini Coefficient
 The Gini coefficient ranges from 0 to 1
 Gini Coefficient = area b/w actual and equal distribution curve
divided by total area under equal distribution curve
 In fig. Gini Coefficient= area of A / area of (A+B)
 Gini Coefficient is directly proportional to income inequality
 If Gini Coefficient=0Perfectly equal income distribution
 If Gini Coefficient=1Perfectly unequal income distribution

Problems in measuring inequality
1. Expenditure based vs income based measures
2. The economic life cycle
3. Transitory vs permanent income

Problems in measuring in equality
Income approach
 Total incomes earned by household per year
Expenditure approach
 Total amount spent on the goods per year
 Providing a direct measure of living standards
 The collection of data on expenditure difficult

The economic life cycle
 Regular pattern of income variation over a person’s life
 Normal life cycle pattern causes inequality in distribution of
annual incomes
 To gauge the inequality of living standards, the distribution of
lifetime income is more relevant than the distribution of annual
incomes
 The data on lifetime incomes are not readily available

Transitory vs permanent income
 Permanent income is a person’s normal income
 Permanent income is hard to measure
 A family’s ability to buy goods and services depends largely on
its permanent income
 To gauge inequality of living standards the distribution of
permanent income is more relevant than the distribution of
annual income
 Permanent income is hard to measure

The political philosophy of
redistributing income
Utilitarianism
 Utility_ A measure of happiness or satisfaction
 The utilitarian case for redistributing income is based
on diminishing utility

Utilitarianism
 Utilitarianism is the political philosophy
which government should choose policies
to maximize the total utility of every one in society

Rawls and the maximin criterion
 The claim that the government should
aim to maximize the wellbeing of the
word-off person in society

Rawlsianism
 The political philosophy according to
which the government should choose
political deemed to be just, as evaluated
by an impartial observer behind a veil of ignorance

Libertarianism
 The political philosophy according to which the
government should punish crime and enforce voluntary
agreement but not redistribute income

Poverty
 ‘‘The state of being inferior in quality or insufficient in
amount, being extremely poor.’’
 Two types of poverty i.e Absolute poverty and relative poverty
 Absolute poverty: when people have insufficient income to
afford the basic necessities of life, such as food, rent clothing
etc
 Relative poverty: when people have income significantly less
than the average income for society
 In developed countries like U.K , absolute poverty is generally
rare however relative poverty is a significant problem

Poverty
 Poverty is a big problem faced by policymakers
 Government should provide the income to those who need it
most
 Poor families are more likely than the overall population to
experience homelessness, drugs dependency, domestic
violence, health problem, illiteracy, unemployment and low
educational attainments.
 Political philosophers hold various views about the role of the
government in altering the distribution of income
 Reducing inequality and poverty and promoting equity are
important objectives of economics

How to Reduce Poverty?
 1. Minimum Wages Law:
 Law setting a minimum or award wage that employers can pay
workers are a perennial source of debate
 Minimum wage is a way to help the working poor without any
cost to government
 Minimum wages can be understood by the tools of demand and
supply
 For workers with low level of skills and experience, a high
award wage forces the wage above the level that balances
supply and demand and it raises the cost of labor to firm and
reduces quantity of labor as demanded which results in high
unemployment

How to Reduce Poverty ( cont.)
2. Social Security
“Government programs that supplement the income of the
needy”
 The other way to reduce poverty is way to raise the living
standards of the poor by government through social security
programs
 Social security programs includes unemployment benefits, old-
age pension, family assistance allowances and disability
payment
 But criticism of SSP is that it creates incentives for people to
become ‘needy’

 3. Negative Income Tax:
 “A tax system that collects revenue from high income
households and gives transfer to low income households.”
 Taxes collection affects the distribution of income
 High income families pay high tax than low income families
 The tax money should be spend on poor to minimize their
number
 Every family should report its income to the government

5. In-Kind Transfers
 Providing poor the goods and services they need to raise their
living standards
 Those good and services includes food, shelter, clothes etc
 In-kind transfer argue that such transfer that the poor get what
they need most
 Voucher Cards: Government should provide voucher cards to the
poor so when they buy some food etc from any store, they can
buy it on this card instead of giving money

 5. Anti-Poverty Programs:
 Encouraging the poor from escaping poverty
 The adverse effect of high effective tax rate can persist over
time
 In addition, their children miss the lesson learned by observing
parents with a full time job, and this may adversely affect their
own ability to find and hold a job
 These programs alter work attitudes and create a ‘culture of
poverty’
 Solution is that benefits to poor families should be reduced

Micro Economics Chapter 20 , The Distribution of Income by (Nouman Khilji)

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