IFS Poverty and Inequality Luke Sibieta

© Institute for Fiscal Studies, 2005 Whats coming up Why do we care about poverty and inequality? How do we measure them? Whats happened to poverty? Whats happened to inequality? Reconciling the trends Conclusions

© Institute for Fiscal Studies, 2005 Why do we care? What matters most is how well people are doing in absolute terms. We should continue to improve opportunities for lower-income people, but inequality as a major and chronic American problem has been overstated. – Tyler Cowen, 2007 An unequal society cannot help but be an unjust society. – Brad Delong, 2007

© Institute for Fiscal Studies, 2005 Why do we care? (2) Equity & Fairness –Natural justice –Equality of opportunity –Intergenerational fairness Efficiency –Impact on growth –Impact of deprivation on later life outcomes –Political economy

© Institute for Fiscal Studies, 2005 Poverty and inequality of what? Look directly at material deprivation –Will form part of Governments child poverty target –Is it a good proxy for overall living standards? Living standards – income or consumption? Permanent income against transitory income Consumption better in principle But… income data is more readily available

© Institute for Fiscal Studies, 2005 How do we measure income? Same as the way Government does for HBAI Use the annual Family Resources Survey Income from all sources Net disposable income At household level Equivalisation to account for differential needs –e.g. A single individual needs 2/3 of the income of childless couple to achieve same standard of living

© Institute for Fiscal Studies, 2005 The income distribution 2004/05

© Institute for Fiscal Studies, 2005 Features of income distribution Highly skewed – log-normal distribution 2/3 of individuals have incomes below mean Long-tail: 2% of individuals have incomes above £1,000 Poverty threshold is located near modal income

© Institute for Fiscal Studies, 2005 Measuring poverty (1) Poverty is about needs & requirements –Many ways of defining these –2 broad approaches: Absolute Poverty –Exact definition difficult –Characterised by starvation, ill health… Relative poverty –Living standards not commensurate with average living standards Does relative poverty matter? Political consensus emerging that it does

© Institute for Fiscal Studies, 2005 Measuring poverty (2) How we measure relative poverty –Proportion of individuals living in households with incomes below x% of the median –Calculated both before and after housing costs –AHC more widely used No account of depth of poverty No account of length or persistency

© Institute for Fiscal Studies, 2005 Income poverty falls under Labour

© Institute for Fiscal Studies, 2005 All possible poverty thresholds BHC

© Institute for Fiscal Studies, 2005 Child Poverty: historic aim Our historic aim will be for ours to be the first generation to end child poverty forever, and it will take a generation. It is a twenty year mission, but I believe it can be done Tony Blair, March 1999

© Institute for Fiscal Studies, 2005 Child poverty targets 2004/05 Target –Cut child poverty by ¼ compared with 1998/99 –Narrowly missed 2010 Target –Cut child poverty by ½ compared with 1998/99 –Very challenging indeed 2020 Target –Eradicate child poverty

© Institute for Fiscal Studies, 2005 Child poverty in 2010 and 2020

© Institute for Fiscal Studies, 2005 The prospects for 2010 Running to stand still Cost £4.5 billion in new public expenditure to have 50/50 chance of achieving 2010 target £28 billion for 2020 Obviously, 2020 target will require much more than tax and benefit changes

© Institute for Fiscal Studies, 2005 Other measures of poverty Brewer, Goodman and Leicester (2006) look at consumption poverty –Less dramatic falls than for income poverty DWP publishes estimates of persistent poverty –Fell slightly between 1997 and 2003 (latest data)

© Institute for Fiscal Studies, 2005 Moving on to look at inequality? How unequal is the income distribution? Very subjective and political question Lets look at various measures of inequality –Graphical and summary statistics

© Institute for Fiscal Studies, 2005 The Lorenz Curve and Gini Coefficient

© Institute for Fiscal Studies, 2005 The Lorenz Curve and Gini Coefficient

© Institute for Fiscal Studies, 2005 The Gini Coefficient Bounded between zero (complete equality) and one (complete inequality) Treats deviations from equality the same regardless of where they occur within income distribution Net income Gini is typically between 0.25 and 0.35 for developed countries

© Institute for Fiscal Studies, 2005 The Gini Coefficient: 1979 – 2004/05

© Institute for Fiscal Studies, 2005 International Comparisons Source: OECD. Figures not directly comparable with those on other slides. Mid 80s Germany refers to West Germany.

© Institute for Fiscal Studies, 2005 Why did inequality rise in the 1980s? Increased wage inequality –Skill-biased technological change –International trade –Decline of trade unions –Wage policies and wage councils removed Demographic Change –Increase in single-adult households –Work-rich vs Work-poor households –Longer life expectancies

© Institute for Fiscal Studies, 2005 Why did inequality rise in the 1980s? Regressive fiscal policy changes –Income tax cuts mainly benefited those on high incomes –But… estimated impact of tax and benefit reforms depend on the counter-factual –See Clark and Leicester (2004)

© Institute for Fiscal Studies, 2005 Why did it stop growing? Increased supply of skilled workers dampened skills premium? Increased demand for low-skilled workers? Progressive fiscal policy since late 1990s? No clear cut answer yet

© Institute for Fiscal Studies, 2005 Different measures of income inequality 1996/97 – 2004/05

© Institute for Fiscal Studies, 2005 Income changes by percentile group: 1996/97 – 2004/05

© Institute for Fiscal Studies, 2005 Income changes by percentile group: 1996/97 – 2004/05

© Institute for Fiscal Studies, 2005 Income changes by percentile group: 1996/97 – 2004/05

© Institute for Fiscal Studies, 2005 Income changes by percentile group: 1996/97 – 2004/ /7

© Institute for Fiscal Studies, 2005 Explaining trends under Labour Pattern of income growth between p10 and p90 will have reduced income inequality Fast growth in the top decile and slow growth at the bottom increased income inequality So… –Reduced relative poverty –Little change in overall income inequality

© Institute for Fiscal Studies, 2005 Summary Relative poverty and inequality grew rapidly in the 1980s Little change in inequality since early 1990s despite progressive tax and benefit reforms Falls in relative poverty over past ten years

© Institute for Fiscal Studies, 2005 Reflecting on the trends Tax and benefit changes have been important –Increasing inequality and stemming further rises Structural changes are almost certainly the key –How much control does the Government have other these? –More than you think, but less than they want –e.g. education policy, encouraging single parents into work Are pre-Thatcher levels of poverty and inequality unachievable? Or desirable?