CHAPTER 12

INCOME
REDISTRIBUTION:
CONCEPTUAL
ISSUES

Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

The Distribution of Income Among Households
Percentage Share

Lowest Second Middle Fourth Highest Top 5

Year Fifth Fifth Fifth Fifth Fifth Percent
1967 4.0 10.8 17.3 24.2 43.6 17.2
1977 4.2 10.2 16.9 24.7 44.0 16.8
1982 4.0 10.0 16.5 24.5 45.0 17.0
1987 3.8 9.6 16.1 24.3 46.2 18.2
1992 3.8 9.4 15.8 24.2 46.9 18.6
1997 3.6 8.9 15.0 23.2 49.4 21.7
2002 3.5 8.8 14.8 23.3 49.7 21.7
2004 3.4 8.7 14.7 23.2 50.1 21.8
Source: U.S. Census Bureau, Current Population Survey, Annual Social and Economic Supplements

URL: http://www.census.gov/hhes/www/income/histinc/h02ar.html

These figures do not include the value of in-kind transfers.

12-2
Who is Poor?

Poverty
Group Poverty Rate Group Rate

All persons 12.7% Under 18 years 17.8%

65 years and
White 8.4 older 9.8

Female
Black 22.8
households,
Hispanic no husband
origin 20.5 present 28.4
Source: US Bureau of the Census, “Historical Poverty Tables.”
[WWW Document] URL: http://www.census.gov/prod/2005pubs/p60-229.pdf

Figures are for 2004.

12-3
Poverty Rate (1960-2004)

Figure 12.1: Poverty rate (1960-2004)

25%

20%

15%

10%

5%

0%
1960 1964 1968 1972 1976 1980 1984 1988 1992 1996 2000 2004

Source: US Bureau of the Census, “Historical Poverty Tables.”

[WWW Document] URL: http://www.census.gov/hhes/www/poverty/histpov/hstpov2.html

12-4
Measuring Poverty
 Poverty line

12-5
Interpreting the Distributional Data
 Census income consists only of family’s cash
receipts
 in-kind transfers
 Official figures ignore taxes
 Income measured annually
 Consumption data may provide better
assessment of well-being
 Problems defining unit of observation

12-6
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

12-7
Implications for Income Inequality
Paul’s marginal utility

Peter’s marginal utility

This is the
netPaul
gain gains
to
this much
society
e utility
f
Peter loses
this much
utility
d

c
MUPeter Take ab fromSocial
MUPaul
Paul’s Peter and give
welfare Peter’s
income to Paul maximized income
0 0’
a b I*
Paul’s income Peter’s income
12-8
Evaluating the Assumptions
 Assumption 1
 Assumption 2
 Assumption 3

12-9
The Maximin Criterion
 Social Welfare Function
W = 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”
 Critique of Rawls

12-10
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

12-11
Nonindividualistic 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

12-12
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
 Mobility
 Corruption

12-13
Expenditure Incidence
 Relative price effects
 Public goods
 Valuing in-kind transfers

12-14
In-kind Transfers
Other goods per month

H
420

E3
340

A F U
300

E1
260

B D
20 60 150 210 Pounds of cheese per month
12-15
In-kind Transfers
Other goods per month

H
420

A F
300

E5
168

E4
136

B D
82 126 150 210 Pounds of cheese per month
12-16
Reasons for In-Kind Transfers
 Commodity egalitarianism
 Reduce welfare fraud
 Political factors

12-17