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Development

Poverty, Inequality, and Development

• Outline:

– Measurement of Poverty and Inequality

– Economic characteristics of poverty groups

– Why is inequality a problem?

– Relationship between growth and inequality

– Relationship between growth and poverty

Poverty, Inequality, and Development

• Introduction and Importance

– Absolute poverty and indicators

– Economic characteristics of the poor

– Policy options for addressing poverty

Measuring Inequality and Poverty

• Measuring Inequality:

– Personal or size distribution of income deals

with the individual persons or households and

the total income they receive

income uses the share of total national income

that each of the factors of production receives

Measuring Inequality

• Personal or size distribution of income

– Quintiles and Deciles

– Lorenz Curve

– Gini Coefficients

– Coefficient of Variation (CV)

Measuring Inequality

• Quintiles and Deciles

– Divide the population into successive quintiles

or deciles according to ascending income levels

and then determine the proportion of N.I

received by each income group

– Common measure of income inequality is the

ratio of incomes received by the top 20% and

bottom 40% of the population

Calculating Income Quintiles

Individual Income

A 5000

B 10000

C 18000

D 15000

E 500

F 200

G 3000

H 1000

I 800

J 20000

Steps involved in calculating quintiles

• Step1: Sort the values from the lowest to the

highest

• Step2: Calculate the total values for all cases

• Step3: Sum up all the incomes

• Step4: Calculate total amount in each quintile

• Calculate each quintile as percentage of total

amount in step3

Calculating Income Quintiles

Income Step1 Step2 Step3 Step4 Step5 Quintile

5000 200 200 73500 700 1% 1st

10000 500 500

18000 800 800 1800 2% 2nd

15000 1000 1000

500 3000 3000 8000 11% 3rd

200 5000 5000

3000 10000 10000 25000 34% 4th

1000 15000 15000

800 18000 18000 38000 52% 5th

20000 20000 20000

Exercise: Calculate the Quintile

Individual Income

A 1000

B 100

C 200

D 200

E 400

F 900

G 1200

H 700

I 500

J 200

Answer

Income Share of Quintile in income Quintiles

300 6% 1st

400 7% 2nd

Measuring Inequality

• Lorenz curves

– Show the actual quantitative relationship

between the percentage of income recipients

and the percentage of total income they

received during a time period (year)

– Depict the variance of the size distribution of

income from perfect equality

Measuring Inequality

• Gini coefficient

– Is measured graphically by dividing the area

between the perfect equality line and the

Lorenz curve by the total area lying to the right

of the equality line in a Lorenz curve diagram

– Ranges in value from 0 (perfect equality) to 1

(perfect inequality)

– Satisfies the properties of anonymity, scale

independence, population independence, and

transfer principles

Figure 6.3 Estimating the Gini

Coefficient

Measuring Inequality

• Coefficient of Variation (CV)

– Is sample SD divided by the sample mean also

satisfies the properties of anonymity, scale

independence, population independence, and

transfer principles

• Functional distribution

• Second common measure of income distribution

• Attempts to explain the share of total national

income that each factor of production receives

Measuring Inequality

• Supply and demand curves are assumed to

determine the unit prices of each productive

factor.

• Unit prices multiplied by the quantities

employed by each factor yields total payment to

each factor

• All inequality measures are measuring relative

income distribution

Measuring Absolute Poverty

of the population are able to maintain

minimum levels of living (IPL)

• Absolute poverty is measured using

– Headcount (H)

– Headcount Index (H/N)

– Poverty Gap (total income shortfall)

Measuring Absolute Poverty

• Headcount

• Number of people whose incomes fall below

the absolute poverty line

• The poverty line is set at a level that remains

constant in real terms

• To do this, define an adequate basket of food,

based on nutritional requirements, and cost it

• Add other expenditures such as shelter,

clothing and medical care to determine the

poverty line

Measuring Absolute Poverty

Measuring Absolute Poverty

– Average poverty gap

TPG

APG

H

where H is number of persons

TPG is total poverty gap

Measuring Absolute Poverty

UNDP and measures poverty as three key

deprivations- survival, knowledge, and economic

provisions

• Survival: fraction of people unlikely to live beyond

40 years of age

• Knowledge: % of illiterate adults

• Economic: % of people without safe drinking

water plus % of children who are underweight

Characteristics of Poverty Groups

• Rural poverty

• Women and poverty

• Ethnic minorities and poverty

Why is inequality bad?

inefficiency and curtails growth

• Extreme inequality undermines social

stability and solidarity

• Extreme inequality is viewed as unfair

Figure 6.10 The “Inverted-U”

Kuznets Curve

Kuznets’ Inverted- U Hypothesis

• In the early stages of growth, distribution of

income will tend to worsen, where as in

later stages it will improve

• Reasons for the inverted- U curve not given

• Evidence indicates that the inverted U-

hypothesis does not hold Taiwan, S. Korea,

Costa Rica, etc)

Relation between economic growth and

inequality

• Does growth affect the level of inequality?

– No consensus

• Does initial inequality affect growth?

– Negative relation between growth and initial

inequality in income (refer to Why is inequality bad?)

– Positive relation between growth and initial inequality

(only Forbes found this relation)

– Initial inequality in assets and human capital

negatively affects growth (as it hurts the poor the

most)

• The main flow of causation appears to be initial

inequality hampering growth and not the other way

round.

Relation between economic growth and

poverty

• Traditionally, it was considered that there is

trade-off between growth and poverty.

• Why are similar rates of growth associated with

different rates of poverty reduction?

– Redistribution of growth benefits reduces poverty

– Initial inequality in income enhances poverty

– Sectoral composition of growth (agriculture versus

modern, rural versus urban)

• Efforts to reduce poverty lead to higher growth and

higher growth leads to reduction in poverty.

Policy Options-

• Altering the functional distribution of income

through policies designed to change relative

factor prices

– Removal of factor price distortions

• Modifying the size distribution through

progressive redistribution of asset ownership

– Redistribution policies such as land reform

• Reducing the size distribution at the upper levels

through progressive income and wealth taxes

– Direct progressive income taxes

– Indirect taxes

• Direct transfer payments and the public

provision of goods and services

– Workfare programs superior to welfare and

handouts.

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