2. Who Gets What? The Distribution of Income “God must love the poor,” said Lincoln, “or he wouldn’t have made so many of them.” He must love the rich, or he wouldn’t divide so much mazuma among so few of them. — H. L. Mencken CHAPTER 20 Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin

3. Ways of Considering the Distribution of Income Share distribution of income is the relative division of total income among income groups Socioeconomic distribution of income is the allocation of income among relevant socioeconomic groups For example, it measures how much income the top 5% or 15%, or the bottom 10% gets For example, how much do women get compared to men, old compared to young, black compared to white 20-2

4. What do you see? A man or a woman? How old are they? Where do they live? What race are they? female a child from a rural area white Poverty in the US

5. % Population % Income 60 50 40 30 20 10 12 34 5 6 0 789 70 80 90 100

6. % Income % Population 60 50 40 30 20 10 12 34 5 6 0 789 70 80 90 100 Degree of income inequality

7. Lowest 20% of recipients 4.5 4.8 5.4 5.1 4.6 4.3 12.2 24.0 12.2 23.8 11.6 24.3 10.8 23.8 9.8 22.8 12.0 23.4 41.3 40.9 41.6 44.3 47.4 42.7 1950 1960 1970 1980 1990 2000 17.4 17.8 17.6 17.5 16.6 15.5 Second quintile Third quintile Fourth quintile Top 20% of recipients Family income before taxes Impact of taxes & transfers on 2006 household income 7.1 6.8 7.1 12.9 23.9 12.8 24.1 12.4 23.3 13.2 24.1 38.1 38.2 40.1 37.4 1961 1972 1980 1990 18.2 18.0 18.1 17.1 Household expenditures Income Inequality in the United States 7.4 12.9 23.438.8 1995 17.5 4.2 9.7 22.9 47.7 2001 15.4 4.0 9.6 23.0 2004 15.4 47.9 4.1 9.7 23.3 47.4 2007 15.6 3.5 4.3 9.7 22.7 8.5 22.5 48.3 50.5 Before After 15.0

8. % Population % Income 60 50 40 30 20 10 12 34 5 6 0 789 70 80 90 100

9. % Population % Income 60 50 40 30 20 10 12 34 5 6 0 789 70 80 90 100 1970 2007

10. The Lorenz Curve A Lorenz curve is a geometric representation of the share distribution of income among families in a given country at a given time Both axes start at zero and end at 100% It measures the cumulative percentage of families on the horizontal axis, arranged from poorest to richest, and the cumulative percentage of family income on the vertical axis 20-9

11. Cumulative % of income 20 Cumulative % of Families 60 80 100 40 20608010040 0 The Lorenz Curve Income Quintile % of Total Family Income Cumulative % of Total Family Income Lowest 1/5 3.4 Second1/5 8.7 12.1 Third 1/514.8 26.9 Fourth 1/523.4 50.3 Highest 1/549.7100.0 A Lorenz Curve of U.S. Income Line of absolute equality 20-10

12. Cumulative % of income 20 Cumulative % of Families 60 80 100 40 20608010040 0 The Lorenz Curve A Lorenz Curve for the U.S., 1929, 1970, and 2007 Line of absolute equality From 1929 to 1970, income inequality decreased From 1970 to 2007, income inequality increased 2007 1970 1929 20-11

13. Defining Poverty Poverty can be defined as a relative or absolute concept The U.S. government definition of poverty is a combination of a relative and an absolute measure The poverty threshold is the income below which a family is considered to live in poverty Equal to or less than three times an average family’s USDA-calculated minimum food expenditures 20-12

14. Number and Percentage of Persons in Poverty Year Number of People (millions) Percentage of Population Poverty Income of a 4-Person Family (in current $) 196039.922.2 3,022 197024.412.6 3,986 198029.313.0 8,414 199033.613.513,359 200031.611.317,603 200234.612.118,224 200437.012.719,307 200636.512.320,794 200737.312.521,027 20-13

15. Debates about the Definition of Poverty There are arguments that the poverty line is both too low and too high Those who feel that the poverty line is too low would multiply the food figure by roughly four rather than three since food is now about one fourth of a family’s budget Some argue that the current measure is too high because poverty figures do not include noncash assistance or assets or savings recipients may have Like most economic statistics, poverty statistics should be used with care 20-14

16. The Costs of Poverty Some feel that society suffers when some of its people are in poverty When poverty decreases, the incentives for crime also decrease Some people argue that poverty increased as a result of government tax and spending policies that favor the wealthy Others argue that it is the result of demographic changes, such as the increase in single-parent families 20-15

17. Social and Economic Mobility Concern about poverty has been lessened by the belief that the U.S. has significant economic and social mobility Individuals who work hard can escape poverty In the 1960s and 1970s, studies found that the U.S. had significant upward and downward mobility Recent studies have found that income mobility has significantly declined in the U.S. 20-16

18. Cumulative % of income 20 Cumulative % of Families 60 80 100 40 20608010040 0 International Dimensions of Income Inequality U.S. Income Distribution Compared to That of Other Countries Line of absolute equality Among countries in the world, the U.S. has neither the most equal nor the most unequal distribution of income U.S. Japan Brazil Sweden 20-17

19. International Dimensions of Income Inequality Per Capita Income (GDP) in Various Countries $10,000 $30,000 $40,000 $20,000 SwedenU.S.JapanNew Zealand BrazilKenyaDem. Rep. of Congo $46,060$46,040 $37,670 $28,780 $5,910 $680 $140 World income inequality is much greater than country income inequality 20-18

20. The Distribution of Wealth Wealth is the value of assets individuals own less the value of what they owe It is a stock concept representing the value of assets such as houses, buildings, and machines Income is payments received plus or minus changes in value of a person’s assets in a specified time period It is a flow concept, a stream through time In the U.S., wealth is significantly more unequally distributed than is income 20-19

21. Cumulative % of income 20 Cumulative % of Families 60 80 100 40 20608010040 0 The Distribution of Wealth Wealth Quintile % of Total Household Wealth Lowest 1/5 0.0 Second1/5 0.2 Third 1/5 3.8 Fourth 1/5 11.3 Highest 1/5 84.7 The distribution of wealth and wealth compared to income Line of absolute equality Family Income Household Wealth 20-20

22. Socioeconomic Dimensions of Income Inequality The share distribution of inequality is only one of the dimensions that inequality of income and wealth can take Unequal distribution of income based on race, ethnic background, geographic region, and other socioeconomic factors such as gender and type of job exists The United States has socioeconomic classes with some mobility among classes This is not to say such classes should exist, it is only to say that they do exist 20-21

23. Occupational CategoryMale ($)Female ($) Management72,94952,510 Business and Financial64,96546,974 Health Care Support24,32335,719 Food Preparation18,06019,060 Sales48,39230,777 Socioeconomic Dimensions of Income Inequality Median Income YearMale ($)Female ($) 198015,340 6,772 199027,86619,816 200039,79229,334 200745,11335,102 Race, 2007Median Income ($) Asian66,103 White54,920 Black33,916 Hispanic Origin38,679 20-22

24. Income Distribution According to Class The class system as a pyramid, a diamond, and a pentagon A developing country’s class system U.S. class system in the 1960s and 1970s U.S. class system in recent years Upper class Middle class Lower class Middle class Lower class Middle class Lower class 20-23

25. Distributional Questions and Tensions in Society Both radicals and libertarians describe the tensions among classes in society better than the mainstream, classless analysis Mainstream economists focus on the share distribution of income Radicals focus on class and group structures Libertarians emphasize the role of special interests in shaping government policy 20-24

26. Philosophical Debates about Equality and Fairness Some philosophers argue that inequality creates diversity that enriches the lives of everyone Others maintain that equality is the overriding goal The Declaration of Independence asserts that “all men are created equal” Objective economists limit themselves to explaining the effect of various policies on the distribution of income 20-25

27. Fairness and Equality Most Americans see fairness as equality of opportunity There are great differences of opinion as to what constitutes “equal opportunity” There are three problems in determining whether an equal income distribution is fair: 1.People do not start from equivalent positions 2.People’s needs differ 3.People’s efforts differ 20-26

28. Three Important Side Effects of Redistributive Programs Society may decide to redistribute income from rich to poor to meet its ideal of fairness There are three side effects of redistribution of income: The labor to leisure incentive effect The tax avoidance or evasion incentive effect The incentive to appear more needy than you actually are Often politics, not value judgments, plays a central role in determining what taxes and individual will pay 20-27

29. Income Redistribution Policies The government redistributes income through direct and indirect methods The indirect method involves the establishment and protection of property rights The direct methods include: Taxation which are policies that tax the rich more than the poor Expenditures which are programs that help the poor more than the rich 20-28

30. Types of Taxes or how the tax changes with income changes u Progressive tax is one in which the average tax rate rises with income. - tax brackets u Proportional tax is one in which the average tax rate stays the same across income levels. - flat tax, sales tax? u Regressive tax is one in which the average tax rate falls with income. - sales tax – higher income spend lower proportion on taxable goods Taxes!!!!! Average tax rate equals tax liability divided by taxable income.

31. A sales tax of 7 % on medicine A state income tax with 3 tax brackets A property tax of $2.85 per $100 of assessed property value A tax of $8 on room occupancy in all city hotels A tax of 3 % on all wages earned in the city A sales tax of 5% on utilities A federal tax of $2 per pack of cigarettes.

32. Taxation to Redistribute Income A progressive tax is a one in which the average tax rate increases with income It redistributes income from the rich to the poor A regressive tax is a one in which the average tax rate decreases as income increases It redistributes income from poor to rich A proportional tax is a one in which the average tax rate is constant regardless of income It is neutral in regard to income redistribution 20-31

33. Taxation to Redistribute Income The federal government gets most of its tax revenue from: Personal income tax Corporate income tax Social Security tax State and local governments get most of their tax revenue from: Income tax Sales tax Property tax 20-32

34. Expenditure Programs to Redistribute Income Social Security is a social insurance program that provides financial benefits to the elderly and disabled and to their eligible dependents and/or survivors Medicareis a medical insurance system for retired people Expenditure programs have been more successful than taxation for redistributing income Examples of expenditure programs: 20-33

35. Expenditure Programs to Redistribute Income Public assistance programs are means-tested social programs that provide financial, nutritional, medical, and housing assistance and include: Temporary Assistance for Needy Families (TANF) Supplemental Nutritional Assistance Program (SNAP) Medicaid General assistance Examples of expenditure programs: 20-34

36. Expenditure Programs to Redistribute Income Supplemental Security Income (SSI) is a federal program that pays benefits, based on need, to the elderly, blind, and disabled Unemployment Compensation is short-term financial assistance, regardless of need, to eligible individuals who are temporarily out of work Examples of expenditure programs: Housing programs are federal and state programs to improve housing or to provide affordable housing 20-35

37. Distribution of Income before and after Taxes and Transfers Cumulative % of income 20 Cumulative % of Families 60 80 100 40 20608010040 0 Line of absolute equality Before taxes and transfers After taxes and transfers Although little redistribution takes place through the tax system, more occurs through the transfer system The after-tax and transfer distribution of income is more equal than the before-tax-and-transfer distribution of income 20-36

38. Chapter Summary The Lorenz curve is a measure of the distribution of income among families in a country The farther the Lorenz curve is from the diagonal, the more unequally income is distributed The official poverty measure is an absolute measure because it is based on the minimum food budget for a family It is a relative measure because it is adjusted for inflation 20-37

39. Chapter Summary Income is less equally distributed in the U.S. than in some industrialized countries, such as Sweden, but more equally distributed than in many developing countries, such as Brazil Wealth is distributed less equally than income Income differs substantially by class and by other socioeconomic factors, such as age, race, and gender Fairness is a philosophical question, so people must judge a program’s fairness for themselves 20-38

40. Chapter Summary Income is difficult to redistribute because of incentive effects of taxes, avoidance and evasion of taxes, and incentive effects of distribution programs The U.S. tax system is roughly proportional, so it is not a very effective means of redistributing income Government spending programs are more effective than taxes in reducing income inequality in the U.S. 20-39