Prepared by: Ramawta Ashwaye Kumar (1980021)

Submitted to : Dr Ushad Subadar Agathee

Most income distributions have the mean greater than
the median, and so are commonly called “right-
skewed”, or “positively-skewed”, implying that they
have positive skewness. Discuss

In a market economy, individuals' choices and consumption patterns are limited by how much money
they have. No one (or very few) people are able to buy everything they would like to have, and so they
have to make choices in tradeoff situations in order to best use what money they have. Obviously, the
very poor have very limited choices, while the very rich have a wide range of choices. This discrepancy
attracts the interest of social activists, the government, the general public, and economists alike.
Economists study this inequality of means using measures of income distribution.

Income distribution is the smoothness or equality with which income is dealt out among members of a
society. If everyone earns exactly the same amount of money, then the income distribution is perfectly
equal. If no one earns any money except for one person, who earns all of the money, then the income
distribution is perfectly unequal. Usually, however, a society's income distribution falls somewhere in
the middle between equal and unequal.

Measuring income is a simple concept. In practice, however, empirical analysis of the income
distribution involves several choices about how income is defined and the level at which income data
are examined. Income can be constructed narrowly (e.g., earnings only) or broadly (e.g., as the sum of
earnings, capital gains, government transfers, and other sources). It can be presented in pre-tax status
or reflect the taxes paid and tax credits received. Income can be measured at the individual level or
represent pooled resources among households, families, or tax units.

Most income distributions have the mean greater than the median, and so are commonly called “right-
skewed”, or “positively-skewed”, implying that they have positive skewness. However, this relation does
not always uphold for some of the existing statistical measures of skewness, and the scholarly consensus
is still lacking as to which skewness measure should be generally used. For example, the conventional
measure of skewness is given by the standardized third central moment. For very skewed distributions,
this measure can be so sensitive to the extreme tails of the distribution that it might be difficult to
estimate accurately1 , and for some distributions like Pareto, it is only well-defined for certain
parameter values. This might be a particularly important concern for analyses that rely on the very top
incomes the mean over the median inequality measure is a special case of the quantile measure of
skewness; 2) if the quantile skewness is sufficiently small and positive, it is possible, for fixed discount
factor and the number of periods the tax remans in force, to construct a social mobility function under
which the majority winning tax is zero on a whim of the median voter whose income is less than the
mean, i.e., the POUM hypothesis holds; and 3) under relatively mild conditions, a quantile-skewness-
reducing tax is progressive in the conventional sense.
Distribution of Income

If the distribution of the household incomes of a region is studied, from values ranging between $5,000
to $250,000, most of the citizens fall in the group between $5,000 and $100,000, which forms the bulk
of the distribution towards the left side of the distribution, which is the lower side. However, a couple of
individuals may have a very high income, in millions. This makes the tail of extreme values (high income)
extend longer towards the positive, or right side. Thus, it is a positively skewed distribution.

The above diagram shows the income distribution of the world. The income distribution is positively
skewed in most situations.

The Characteristics Skew of Earnings Distributions In the physical and biological worlds, distributions
tend to be symmetric and bell-shaped. 4 But in the social world, size distributions tend to be asymmetric
and right- skewed. Thus, we begin with stochastic process theories and other models that focus
specifically on generating earnings distributions with long right tails. We then turn to models that
address skewness while generating richer behavioral implications. From the central limit theorem, we
know that normal distributions arise from sums of many independent and identically distributed
components, irrespective of how the components themselves are distributed. To apply that argument to
earnings and other long-tailed distributions in economics, it is necessary to hypothesize that a person’s
earning capacity is generated as a product of independent increments, as in (1.1) y =gεi , where the εi ’s
reflect the myriad factors that determine personal productivity (Roy, 1950). With enough independent
ε-components, log(y) tends to the Normal distribution whatever the distribution of the εi ’s (Atchinson
and Brown, 1957). The distribution of the natural units (the antilog) has a long right tail. However,
observed earnings distributions tend to have tails that are thicker and longer than the log normal. For
instance, the Pareto distribution has “infinite” second, third, and higher order moments, and fits the
upper tail of earnings distributions quite well. 1a Stochastic Process Theories The stochastic process
approach focuses on the “long-tail problem” (see especially the 5 accounts of Steindl, 1968, Lydall, 1968
and Pen, 1971). It builds up a “generating process” for the overall distribution from more elementary
micro components. However, the components themselves have no behavioral content. A log normal
distribution is generated by a random walk in which the percentage change in a person’s earnings is
distributed independently of earnings itself. Such a process results in equation (1.1), but since an
individual earnings level is the product of random variables realized up to that time, such a process
implies ever growing variance in the overall distribution of log earnings. Some stabilizing force that
offsets the tendency for increasing variance is necessary for the process to converge to a stationary
steadystate distribution. Various economists devised different auxiliary stabilizing hypotheses to solve
this problem. (Kalecki, 1945; Rutherford, 1955; Simon, 1955, Wold and Whittle, 1957). Champernowne
(1953, 1973) established the basic method. He replaced the random walk with a Markov chain where
workers face identical, fixed transition probabilities of moving between exogenously defined (log)
earnings classes. Markov chains also have the variance-increasing property unless the transition
probabilities are appropriately restricted. Champernowne’s theory controls the variance of earnings
over time by restricting the average transition to be downward, toward lower incomes. Intuitively, the
idea of intergenerational turnover of workers justified this restriction (such turnover is explicit in
Rutherford, 1955): higher earning older workers drop out of the process at retirement and are replaced,
in a sense, with lower earning new entrants. It is slightly astonishing that a simple specific form of
Champernowne’s restriction implies Pareto’s law as the stationary distribution. Singh and Maddala
(1976) pursued a related hazard function approach. If F(x) is the 6 cumulative probability distribution of
random variable x and f(x) is its density, 1-F(x) is called the survival function, and h(x) = f(x)/[1 - F(x)] is its
hazard (failure) rate. A decreasing hazard seems necessary to produce the kind of probability masses
observed in the upper tails of earnings distributions. For example, the normal has a hazard that is strictly
increasing in x, but the hazard of the Pareto distribution is strictly decreasing (it is h(x) = α/x). The hazard
of the log normal is not monotone. It first increases and then decreases in x. Singh and Maddala produce
a new class of distributions by specifying that the proportional hazard is logistic, or alternatively that the
hazard itself follows a sech2 law. These new distributions closely fit the overall distribution of family
incomes.

Income distribution is extremely important for development, since it influences the

cohesion of society, determines the extent of poverty for any given average per capita income and

the poverty-reducing effects of growth, and even affects people’s health. The paper reviews the

connections between income distribution and economic growth. It finds that the Kuznets

hypothesis that income distribution worsens as levels of income increase is not at all strongly

supported by the evidence, while growth rates of income are not systematically related to changes

in income distribution. However, evidence is accumulating that more equal income distribution

raises economic growth. Both political and economic explanations have been advanced. The

finding suggests that more equal income distribution is desirable both for equity and for promoting

growth.
Strategies to promote more egalitarian growth are reviewed, with examples given.

However, although these strategies seem both feasible and desirable, in the 1980s and 1990s there

has been a strong tendency for income distribution to worsen in both developed and developing

countries. A variety of explanations as to the cause for this have been advanced including trade

liberalization, technology change, and the impact of liberalization and globalization more

generally. Most of the paper is concerned with the distribution of pre-tax household income. A

brief survey of findings on the incidence of taxation and expenditure shows that tax incidence is

often neutral, or proportionate to income, and occasionally either progressive or regressive. In

contrast, the incidence of public expenditure is mostly progressive, so an increase in the levels of

taxation and expenditure would tend to improve the distribution of welfare. Little direct evidence

has been collected on the distribution of measures of well-being, such as human development

indicators, but there is strong evidence that health achievements are related to income levels, while

average societal health standards tend to worsen as inequality increases.

There is broad empirical and theoretical support for the view that greater equality of

income distribution is good for economic growth, for social cohesion, for poverty elimination and

for health; in other words, that in general, more equality promotes development. It seems,

therefore, that greater equality of income distribution is to be recommended on all counts. Yet the

current situation is one of rising inequality in the majority of countries, both among developed and

developing countries, which associated with globalization and liberalization.

The evidence also suggests that Governments can influence income distribution by their

policies towards asset distribution, by the growth strategy chosen and by tax and expenditure

policies. In general, higher levels of taxation and expenditure improve the distribution compared

with the pre-tax system, even where the tax system is not notably progressive. Well designed, tax,

expenditure and transfer policies can greatly improve the distribution of welfare. Within limits,

also, empirical evidence suggests that higher taxes do not impede economic growth. Yet

globalization is restricting Governments’ ability to counter the rise in inequality of primary

monetary incomes by redistributive taxation and expenditure because of the feared impact on

competitiveness, trade and capital movements. There is a sad irony in the situation because the

rise in inequality and downward pressure on government expenditure is likely to reduce political
stability, and also diminish essential expenditure on social and economic infrastructure, essential

for sustained growth and social stability. A major policy challenge for the twenty-first century will

be to tackle this dilemma.

One general conclusion from this is that coordinated regional, or better international,

action would help promote equality without weakening the ability to compete. For example,

regional coordination of domestic tax and benefit strategies would permit improved distribution

without undermining competitiveness, as would regional coordination of minimum wages at an

appropriate level. At an international level, coordinated taxation of international capital flows

(including taxation of short-term capital and of multinational companies) and support for universal

human rights to minimal standards of living would also contribute to improving income

distribution, and countering the immiserizing impact which globalization can have. A global

economic environment requires a global social response. In general, the liberalizing and

globalizing era of the late twentieth century has tilted the balance of power and benefits towards

those with capital (physical, human and financial) against those without. This needs to be

corrected.

However, while a regional and global response is needed, much can be done at the national

level. Countries which have put human development and improved income distribution high on

the agenda, have not lost out in the global economy because the build up of human resources

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enhances their productivity. The types of policies likely to improve income distribution were

identified above. They include agrarian-focused and employment-intensive growth strategies; high

and widely spread expenditure on education; redistribution of assets; a structured market to direct

education, training, and asset accumulation towards deprived groups; and strong policies towards

social protection and social income. Gender balance in each aspect is necessary to improve
intrahousehold income distribution. It is essential to consider not just vertical income distribution but

intra-household and horizontal inequalities as well.

Nonetheless, although it is fairly easy to identify the appropriate set of policies which

would increase equality and improve social cohesion and economic growth, the prevalence of

powerful global forces responsible for the general rise in inequality makes it difficult to be
optimistic about the possibilities of countries switching to a more egalitarian pattern of

development.