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CHAPTER 12
Income Redistribution: Conceptual Issues
Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin
12-2
The Distribution of Income Among Households
Source: US Bureau of the Census [2008bNote: These figures do not include the value of in-kind transfers.
12-3
Who is Poor?
GroupPoverty
Rate GroupPoverty
Rate
All persons 12.5%Under 18 years 17.0%
White 8.265 years and older 9.7
Black 24.5 Female households, no husband present
Hispanic origin 21.5 28.3
Source: US Bureau of the Census, [2008a] Figures are for 2007.
12-4
Poverty Rate (1960-2007)
Source: US Bureau of the Census [2008a]
12-5
Measuring Poverty
• Poverty line
• A fixed level of real income considered enough to provide a minimally adequate standard of living.
12-6
Interpreting the Distributional Data
• Census income consists only of family’s cash receipts– In-kind(ayni in turkish) transfers, household production
• Official figures ignore taxes
• Income measured annually– Lifetime income would be more accurate
• Consumption data may provide better assessment of well-being
• Problems defining unit of observation
12-7
Simple Utilitarianism
• Utilitarian Social Welfare Function:W = F(U1, U2, ,,,, Un)
• “Promote Greatest Good for Greatest Number”• Additive Social Welfare Function
W = U1 + U2 + … + Un
– Assume• Individuals have identical utility functions that depend only on
their incomes
• Utility functions exhibit diminishing marginal utility of income
• Total amount of income is fixed
12-8
Implications for Income InequalityP
aul’
s m
argi
nal u
tili
ty
Pet
er’s
mar
gina
l uti
lity
Paul’s income Peter’s income
0 0’
MUPaulMUPeter
a
e
c
d
f
I*b
Paul’s income
Peter’s income
Take ab from Peter and give
to Paul
Paul gains this much
utility
Peter loses this much
utility
This is the net gain to
society
Social welfare
maximized
12-9
Evaluating the Assumptions
• Assumption 1– Individuals have same identical utility functions.
• Assumption 2– Marginal utility of individuals is decreasing.
• Assumption 3– The size of pie is fixed and won’t change with
income redistribution.
12-10
The Maximin Criterion
• Social Welfare FunctionW = Minimum(U1, U2, …, Un)
• Maximin criterion - No inequality acceptable unless it works to the advantage of the least well off
• Original position – “behind the veil of ignorance” (insurance against being at the bottom of the income distribution.
– Original position refers to the time when wealth is not distributed yet.
• Critique of Rawls (some people can take the risk)
12-11
Pareto Efficient Income Redistribution
• Will redistribution always make someone worse off?• Utility Function
Ui = F(X1, X2, …, Xn, U1, U2, …, Ui-1, Ui+1, …, Um)
• Redistribution if gain in utility from charity exceeds loss from reduced consumption
• Government reduces cost of redistribution• Income distribution as a Public Good• Social safety net• Social stability
12-12
Non-individualistic Views
• Fundamental principles specifying income distribution derived independent of tastes– Incomes distributed equally as matter of principle– Plato’s 4:1 ratio of highest to lowest income
• Commodity Egalitarianism
12-13
Other Considerations
• Processes versus Outcomes– Fairness of distribution of income judged by fairness of
process that generated it– Robert Nozick
• Society cannot redistribute income because society has no income to redistribute
• Good set of rules to govern society’s operation.
• Mobility
• Corruption
• Positive correlation between inequality and corruption across countries.
12-14
Expenditure Incidence
• Relative price effects– When government uses spending program for the
poor it might change relative price of goods.
• Public goods– Do rich receive more benefit form public goods.
• Valuing in-kind transfers
12-15
In-Kind Transfers
Pounds of cheese per month
Oth
er
go
od
s p
er
mo
nth
300
260
20 150
B
A
D
21060
F
E1
U
E3
420
340
H
12-16
In-Kind Transfers
Pounds of cheese per month
Oth
er
go
od
s p
er
mo
nth
300
136
82 150
B
A
D
210
F
E4
E5
420 H
168
126
12-17
Reasons for In-Kind Transfers
• Commodity egalitarianism
• Reduce welfare fraud
• Political factors– In kind transfers not only help the recipient but
also producer of the good. – Construction companies support housing benefits.– Farmers support food stamp programs.
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