2. Copyright 2008 The McGraw-Hill Companies 32-1 32 Income Inequality and Poverty

3. Copyright 2008 The McGraw-Hill Companies 32-2 Chapter Objectives How Income Inequality in the United States is Measured and Described The Extent and Sources of Income Inequality How Income Inequality Has Changed Since 1970 The Economic Arguments For and Against Income Inequality How Poverty is Measured and its Incidence by Age, Gender, Ethnicity, and Other Characteristics The Major Components of the Income-Maintenance Program in the United States

4. Copyright 2008 The McGraw-Hill Companies 32-3 Facts About Income Inequality Average Household Income $60,258 in 2004 - Among the Highest in the World (1) Personal Income Category (2) Percentage of All Households in this Category Under $10,000 $10,000 - $14,999 $15,000 - $24,999 $25,000 - $34,999 $35,000 - $49,999 $50,000 - $74,999 $75,000 - $99,999 $100,000 and Above Distribution of U.S. Income by Households, 2004 8.7 6.7 12.9 11.9 14.8 18.3 11.0 15.7 100.0 Source: Bureau of the Census

5. Copyright 2008 The McGraw-Hill Companies 32-4 Facts About Income Inequality Division Into 5 Equal Groups (1) Quintile (2) Percentage of Total Income Lowest 20% Second 20% Third 20% Fourth 20% Highest 20% Total Distribution by Quintiles, 2004 3.4 8.7 14.7 22.2 50.1 100.0 Source: Bureau of the Census (3) Upper Income Limit $18,500 34,738 55,331 88,029 No Limit Income Mobility: The Time Dimension

6. Copyright 2008 The McGraw-Hill Companies 32-5 Cumulative % of families Cumulative % of Income 0100 The Lorenz Curve Line of Perfect Equality

7. Copyright 2008 The McGraw-Hill Companies 32-6 Facts About Income Inequality Lorenz Curve and Gini Ratio The Lorenz Curve 20406080100 20 40 60 80 100 0 Perfect Equality Lorenz Curve (Actual Distribution) Complete Inequality A B a b c d e f Gini Ratio = Area A Area A + Area B Percentage of Households Percentage of Income W 32.1 G 32.1

8. Copyright 2008 The McGraw-Hill Companies 32-7 What is the Gini Coefficient? A numerical measure of the degree on income inequality in an economy

9. Copyright 2008 The McGraw-Hill Companies 32-8 What does the Gini Coefficient have to do with the Lorenze Curve? The coefficient transforms the Lorenze Curve into a numerical value

10. Copyright 2008 The McGraw-Hill Companies 32-9 With the Gini Coefficient, what do the #’s mean? A number of 0 is perfect income equality A number of 1 is perfect income inequality

11. Copyright 2008 The McGraw-Hill Companies 32-10 Gini Coefficients, US 1970.394 1975.397 1980.403 1985.419 1990.428 1995.450

12. Copyright 2008 The McGraw-Hill Companies 32-11 Some problems in measuring income distribution  Life cycle income  Family size and effort  Underground economy  Taxes and in-kind income

13. Copyright 2008 The McGraw-Hill Companies 32-12 Income Distribution at One Point & Over Time a YearJohn's Age John's Income Stephanie's Age Stephanie's Income 1998 2008 2018 2028 2038 Total 18 yrs 28 38 48 58 $ 10,000 35,000 52,000 64,000 75,000 $236,000 28 yrs 38 48 58 68 $ 30,000 45,000 60,000 75,000 26,000 $236,000 Point here is that people can have the same lifetime income yet at any moment in time, there will be income differences.

14. Copyright 2008 The McGraw-Hill Companies 32-13 Facts About Income Inequality Effect of Government Redistribution 20406080100 20 40 60 80 100 0 Lorenz Curve Before Taxes and Transfers Percentage of Households Percentage of Income Lorenz Curve After Taxes and Transfers Impact of Government Taxes and Transfers

15. Copyright 2008 The McGraw-Hill Companies 32-14 Facts About Income Inequality Effect of Government Redistribution Noncash Transfers Percentage of Total Income Received, 2003 (1) Quintile (2) Before Taxes And Transfers Lowest 20% Second 20% Third 20% Fourth 20% Highest 20%.8 7.2 14.8 24.0 53.1 Source: Bureau of the Census (3) After Taxes And Transfers 4.5 10.7 16.4 24.0 44.4

16. Copyright 2008 The McGraw-Hill Companies 32-15 Causes of Income Inequality Ability Education and Training Discrimination Preferences and Risks Unequal Distribution of Wealth Market Power Luck, Connections, and Misfortune

17. Copyright 2008 The McGraw-Hill Companies 32-16 Income Inequality Over Time Rising Income Inequality Since 1970 Causes of Growing Inequality –Greater Demand for Highly Skilled Workers –Demographic Changes –International Trade, Immigration, and Decline in Unionism

18. Copyright 2008 The McGraw-Hill Companies 32-17 Causes of Income Inequality GLOBAL PERSPECTIVE Guatemala Brazil South Africa Mexico United States Italy Sweden Germany 0 10 20 30 40 50 48.3 46.9 44.7 43.1 29.9 26.8 22.2 22.1 Source: World Bank, World Development Indicators, 2005 Percentage of Total Income Received by the Top One-Tenth of Income Receivers, Selected Nations

19. Copyright 2008 The McGraw-Hill Companies 32-18 Equality Versus Efficiency The Case for Equality: Maximizing Total Utility The Case for Inequality: Incentives and Efficiency The Equality-Efficiency Tradeoff

20. Copyright 2008 The McGraw-Hill Companies 32-19 Equality Versus Efficiency The Utility-Maximizing Distribution of Income Anderson’s Marginal Utility From Income Brooks’ Marginal Utility From Income 00 Marginal Utility Income $5000 $2500 $7500 MU B MU A a a’ b’ b Utility Gain (Entire Blue Area) Utility Loss (Entire Red Area)

21. Copyright 2008 The McGraw-Hill Companies 32-20 The Economics of Poverty Definition of Poverty –Single in 2004 was $9,645 –Family of 4 was $19,307 –Family of 6 was $25,785 –37 Million Americans –Poverty Rate 12.7% Incidence of Poverty

22. Copyright 2008 The McGraw-Hill Companies 32-21 The Economics of Poverty Female-Householders African-Americans Hispanics Foreign-Born (Not Citizens) Children Under 18 Women Total Population Men Whites Asian Persons 65 or Older Married-Couple Families Full-Time Workers 0 10 20 30 24.7 21.9 21.4 17.8 13.9 12.7 11.5 10.8 9.8 5.5 2.8 28.4 Poverty Rates Among Selected Population Groups,2004

23. Copyright 2008 The McGraw-Hill Companies 32-22 The Economics of Poverty Poverty Trends –Fell Between 1959 and 1969 –Stable in 1970s –Rose in the Early 1980s –Up and Down Late 1990s and 2000s –Rose with Recession 2001 - 2004

24. Copyright 2008 The McGraw-Hill Companies 32-23 Measurement Issues Should we use income or consumption? Many poor by income may have assets to fall back on Non-cash benefits are not counted as income

25. Copyright 2008 The McGraw-Hill Companies 32-24 U.S. Income-Maintenance System Entitlement Programs –Social Insurance Programs –Social Security –Medicare –Unemployment Compensation –Public Assistance “Welfare” –Supplemental Security Income (SSI) Program –Temporary Assistance for Needy Families (TANF) –Food-Stamp Program

26. Copyright 2008 The McGraw-Hill Companies 32-25 U.S. Income-Maintenance System Medicaid Earned-Income Tax Credit (EITC) W 32.2

27. Copyright 2008 The McGraw-Hill Companies 32-26 Welfare: Goals and Conflicts Goals: reduce poverty, give incentives to able-bodied to work, and reasonable cost Often these goals conflict with each other Welfare Reform: Personal Responsibility Act of 1996 during the Clinton years. Replaced AFDC with TANF, temporary assistance for needy families, a grant program run by the states

28. Copyright 2008 The McGraw-Hill Companies 32-27 TANF Several reforms, including a lifetime limit of 5 years, able bodied must work after getting TANF for 2 years See page 629 for more reforms Attempting the end the “culture of welfare” that some felt existed Number on welfare dropped from over 12 million in 1996 to 4.5 million in 2005 About half this drop is attributed to welfare reform, rest to other factors

29. Copyright 2008 The McGraw-Hill Companies 32-28 U.S. Family Wealth and Its Distribution Family Wealth Rose Rapidly and Became More Unequal Between 1995 and 2004 Last Word Median and Average Family Wealth, 1995-2004 In 2004 Dollars YearMedianAverage 1995 1998 2001 2004 $70,800 83,100 91,700 93,100 $260,800 327,500 421,500 448,200

30. Copyright 2008 The McGraw-Hill Companies 32-29 U.S. Family Wealth and Its Distribution Family Wealth Rose Rapidly and Became More Unequal Between 1995 and 2004 Last Word Percentage of Total Family Wealth Held by Different Percentile Groups, 1995-2004 1995 1998 2001 2004 32.2% 31.4 30.2 30.5 34.6% 33.9 32.7 33.4 YearBottom 90%Top 1%Bottom 10% Percentile of Wealth Distribution 67.8% 68.6 69.8 30.5

31. Copyright 2008 The McGraw-Hill Companies 32-30 Key Terms income inequality Lorenz curve Gini ratio income mobility noncash transfers equality-efficiency tradeoffequality-efficiency tradeoff poverty rate entitlement programsentitlement programs social insurance programssocial insurance programs Social Security Medicare unemployment compensationunemployment compensation public assistance programspublic assistance programs Supplemental Security Income (SSI)Supplemental Security Income (SSI) Temporary Assistance for Needy Families (TANF)Temporary Assistance for Needy Families (TANF) food-stamp programfood-stamp program Medicaid earned-income tax credit (EITC)earned-income tax credit (EITC)