7 - The Dirstibution of Income and Wealth: Poverty and Inequality

Question 1

What is wealth?

Answer 1

Personal wealth is the stock of everything that a person or household owns at a particular point in time which has value

Question 2

What is income?

Answer 2

Personal or household income is the flow of money a person or household receives in a particular time period

Question 3

What is the distribution of income?

Answer 3

How income is divided between rich and poor, or between different groups in society, e.g. on a regional, age or gender basis

Question 4

What is the distribution of wealth?

Answer 4

How wealth is divide between rich and poor, or between different groups in society, e.g. on a regional, age or gender basis

Question 5

What is the main difference between wealth and income?

Answer 5

Income is a flow whereas wealth is a stock

Question 6

What are the factors that influence the distribution of wealth?

Answer 6

• The ability to benefit from capital gains
• Private pension assets
• Inheritance, gifts and luck
• Wealth taxation vs taxation of income

Question 7

How does the ability to benefit from capital gains influence the distribution of wealth?

Answer 7

• A capital gain occur when the value of an asset e.g. a house increases
• Most consumer durable goods e.g. cars depreciate in value of the years
• By contrast, the value of land and property generally increases
• Overall the already wealthy own the most expensive houses, often owing more than one house, and they are the main owners of shares
• The least wealthy often rent rather than own the houses they live in, and seldom own shares

Question 8

How does ‘Private pension assets’ influence the distribution of wealth?

Answer 8

• (Property and financial assets e.g. shares are generally forms of marketable wealth)
• Until recently, numerous low-paid UK workers lacked access to company pension schemes and did not contribute to private pension schemes offered by companies like Standard Life.
• Consequently, many low-paid workers have relied solely on the state pension for their retirement income, which, by itself, falls short of providing a comfortable standard of living and is often considered insufficient to avoid poverty.

Question 9

How does ‘Inheritance, gifts and luck’ influence the distribution of wealth?

Answer 9

• Wealthy families are divided into two types of wealth
• ‘New wealth’ - Entrepreneurs who have built up large personal fortunes through founding their own businesses and successful risk taking
• ‘Old wealth’ - Members of the landed aristocracy who pass wealth-holdings from generation to generation
• Old wealth can also create new wealth and vice versa

Question 10

How does Wealth taxation versus taxation of income influence the distribution of wealth?

Answer 10

• A large fraction of government’s tax revenue comes from taxation of income than from the taxation of wealth
• Wealth is lightly taxed and there are many loopholes through which the already wealthy can legally avoid paying wealth taxes e.g. inheritance tax
• The wealthy can also afford to employ accountants and financial advisers who minimise the tax they are liable to pay, and in this way the wealthy become even wealthier

Question 11

What are the factors that influence the distribution of income?

Answer 11

• Factors of production
• The distinction between earned and unearned incomes
• Wage and salary differentials
• Globalisation and the international migration of work

Question 12

How does factors of production influence the distribution of income?

Answer 12

• An important factor is the distribution of national income between the different factors of production: land, labour, capital and entrepreneurs
• Large landholders, like country estate owners, earn substantial incomes through rent, placing them in the top income quintiles.
• The national income share of landlords and capital owners has increased, while labor’s share has declined.
• The share of national income going to workers, historically stable, has been decreasing since the 1980s in many countries.
• Capital owners, such as entrepreneurs, derive income from dividends on their owned shares.
• Profits and entrepreneurial incomes have grown, impacting wages and salaries, with executive salaries growing significantly faster than those of other workers

Question 13

How does the distinction between earned and unearned income influence the distribution of income?

Answer 13

• Earned income includes wages, salaries, other forms of employee compensation, and self-employment income
• Unearned income is income derived from sources other than employment, including interest and investment income e.g. dividend income paid to shareholders
• Differences in unearned income depend primarily on inequalities in the distribution of wealth

Question 14

How does wage and salary differentials influence the distribution of income?

Answer 14

• The difference between the wages and salaries of those at the top and those at the bottom have widened within the labour market
• The extent to which the difference between top and bottom of wage widening can be explained through the supply and demand theory
• The two main factors contributing to the difference of hourly wage rates are the differences in labour productivity and the different slopes and positions of the supply curves within a diagram

Question 15

How does ‘Globalisation and the international migration of workers’ influence the distribution of income?

Answer 15

• Have widened the differences between the wages and salaries paid to different groups of workers
• In the UK, low-paid workers face competition from incoming migrants and overseas workers employed in developing economies where jobs have been outsourced.
• E.g. a call-centre worker serving the UK market but employed in India earns a much lower wage than a counterpart employed in the UK.
• International competition contributes to declining wages in UK labor markets, particularly where workers compete with counterparts in other countries.
• High-end labor markets also experience similar competition, but well-paid UK business executives often negotiate higher pay, citing the need to match rates established in richer countries like the USA, or they may threaten to move to better-paid positions abroad if their pay doesn’t rise.

Question 16

What is equality?

Answer 16

When everyone is treated exactly the same. A completely equal distribution of income means that everybody has the same income

Question 17

What is equity?

Answer 17

When everyone is treated fairly

Question 18

What is the difference between equality and equity in relation to the distribution of income and wealth?

Answer 18

• Equality refers to the equal distribution of wealth and income in society, so that everyone has the same income
• Equity refers to fairness or what is considered to be an acceptable distribution of income and wealth in society. This could be subjective

Question 19

What is the Lorenz curve (what is shows and measures)?

Answer 19

• A graph on which the cumulative percentage of total national income or wealth is plotted against the cumulative percentage of population.
• It measures the extent to which the distribution of income (or wealth) is equal or unequal
• The extent to which the curve dips below a straight diagonal line indicates the degree of inequality of distribution of income

Question 20

Draw the Lorenz Curve?

Answer 20

Question 21

What is the Gini coefficient and what does it measure?

Answer 21

• It gives a numerical value for inequality and is derived from the Lorenz Curve
• Measures the extent to which the distribution of income or wealth among individuals or households within an economy deviates from a perfectly equal distribution

Question 22

What is the formula for Gini coefficient?

Answer 22

• Gini coefficient = A /A+B
• A value of 0 indicates perfect equality (everyone has the same income and wealth)
• A value of 1 is perfect inequality (all of the wealth in the country is concentrated in the hands of one individual or household)

Question 23

Explain this Lorenz curve for the Gini coefficient.

Answer 23

The closer the Lorenz curve is to the line of equality, the smaller area A is. And the Gini coefficient will be low.

If there is a high degree of inequality, then area A will be a bigger percentage of the total area.

A rise in the Gini coefficient shows a rise in inequality – it shows the Lorenz curve is further away from the line of equality.

Question 24

What is the argument made by economists on the possible impact of more equal distributions of income and wealth?

Answer 24

• That more equal distribution of income and wealth can lead to faster economic growth
• The fruits of faster growth can then be used to improve living standards and the economic welfare of most or all the population
• The logic behind this argument is that people on low incomes and who possess little wealth generally spend all or most of their incomes on consumption and save very little, or nothing at all

Question 25

What is progressive taxation?

Answer 25

• A tax is progressive when, as income rises, a greater proportion of income is paid in taxation.
• The term can be applied to a particular tax such as income tax or to taxation in general

Question 26

What are the causes of income and wealth inequality within and between countries?

Answer 26

• Inequality in wages
• Welfare payments and taxes
• Unemployment
• Changes to the UK tax system
• Inequality between countries

Question 27

How is inequality in wages a cause of income and wealth inequality within and between countries?

Answer 27

• More part-time and temporary jobs have been available rather than full time jobs which leaves people underemployed and limits how much they can earn
• The wage gap between skilled and unskilled workers has increased in the UK. Jobs in the low skilled service industries, especially in the public sector, tend to pay less than jobs in the private sector
• Discrimination of age, disabilities, gender, and race e.g. women discriminated against when it comes to promotion locking them out of higher paying jobs

Question 28

How is welfare payments and taxes a cause of income and wealth inequality within and between countries?

Answer 28

• They tend to increase less than wages, even though they’re index-linked to inflation. This means that those on benefits see a smaller real increase in their income compared to those in jobs (increasing inequality)
• Welfare payments have been cut recently and although this might be encouraging to some people to find jobs, many people might be unable to work, so lowers income more
• Some taxes are regressive within the UK meaning those on lower incomes bear a larger burden of the tax (Can increase inequality)

Question 29

How is unemployment a cause of income and wealth inequality within and between countries?

Answer 29

• Can cause relative poverty and it’s particularly detrimental where no one in a household is working, since they are left to rely on state benefits (causing increasing inequality)

Question 30

How is changes to the UK tax system a cause of income and wealth inequality within and between countries?

Answer 30

• Over the last couple decades the UK has switched towards indirect taxes, which tend to be more regressive
• The basic income tax rate fell from 33% to 22%, which helps workers keep more income. However, the benefits of this disproportionately favour the richest households. This has led to an increase in income inequality

Question 31

How is inequality between countries a cause of income and wealth inequality within and between countries?

Answer 31

• There’s inequality between countries caused somewhat by social groups being excluded and marginalised based on ethnicity, gender, sexual orientation and disabilities
• Some countries have been held back due to wars, earthquakes, famines, etc. which has kept their population in poverty
• People having very different opportunities open to them depending where you’re born
• Exploitation of the poor through colonial rule led to more inequality between countries

Question 32

What are the likely benefits and costs of more equal and more unequal distributions?

Answer 32

• Inequality motivates workers, which encourages them to learn new skills and work hard. Higher wages reflect higher productivity in a capitalist society, which results in wage inequality
• Monopolies can exploit consumers with higher prices, and exploit their consumers with lower wages. This allows them to earn even higher profits
• Inheritance. Those who inherit lots have more wealth and can access the best education and therefore the best jobs, which aren’t accessible by those with less wealth. Results in inequality of opportunity and income and wealth can generate more income for the rich widening inequality further
• Government intervention could make income redistribution and wage more equal e.g. inheritance tax, state education, firm regulations
• Inequality could discourage and demotivate those on lower incomes from participating in society. An unequal distribution can lead to negative externalities, e.g. social unrest

Question 33

What is relative poverty?

Answer 33

Occurs when income is below a specified proportion of average income, e.g. below 60% of median income

Question 34

What is absolute poverty?

Answer 34

A condition characterised by severe deprivation of basic human needs, including food, safe drinking water, sanitation facilities, health, shelter, education and information. It depends not only on income but also on access to services

Question 35

What is the difference between relative and absolute poverty?

Answer 35

• Absolute poverty is defined as living below subsistence
• Relative poverty is measured by comparison to the average in the country

Question 36

What is a ‘poverty trap’?

Answer 36

Where a rise in income leads to a decrease in eligibility in benefits, forcing individuals deeper into poverty

Question 37

What is the impact of poverty on key aspects of society?

Answer 37

• Health
• Society
• Poor sanitation
• Education
• Economy

Question 38

What is marginal tax rate?

Answer 38

• The tax rate levied on the last pound of income received.
• The term can be applied solely to income taxes or all the taxes that a person or business pays

Question 39

What are the causes and effects of poverty?

Answer 39

• Inequality in wages or unemployment
• Welfare payments
• Taxes
• Disease, malnutrition and other health problems
• Wars and conflicts
• Corruption and political oppression
• Natural disasters

Question 40

What is fiscal drag and how does it occur?

Answer 40

• It is when inflation pushes taxpayers into higher income tax brackets
• It occurs in a progressive income tax system when the government fails to raise tax thresholds to keep pace with inflation

Question 41

What is ‘the employment trap’ and who does it trap?

Answer 41

• Affects the poor and results from the nature of tax and benefit systems
• (Out of work)
• Contains unwaged social security claimants who choose unemployment
• This is because they decide they are better off out of work, living on benefits, than in low-paid jobs paying income tax and national insurance contributions (NICs), and losing some or all of their right to claim means-tests benefits

Question 42

What are the possible consequences of government policies which affect poverty and the distribution of income and wealth?

Answer 42

• Redistributive policies can make the distributions of income and wealth more equal and reduce relative poverty. Some argue that these policies are equitable. However, by reducing incentives to work hard and to be entrepreneurial slower economic growth and loss of international competitiveness could occur
• Redistributive policies can alleviate child poverty, old-age poverty and fuel poverty, but these aims have been only partially achieved
• Faster economic growth provides the main avenue for reducing absolute poverty, and perhaps also relative poverty, but according to pro-free market economists, wider inequalities in the distributions of income and wealth may be necessary if fast growth is to be achieved and sustained
• Fiscal measures that have been used to try reduce poverty and narrow inequalities in the distribution of income, have resulted in the development of the poverty and unemployment trap

Question 43

What policies could be implemented to influence the distribution of income and wealth and to alleviate poverty?

Answer 43

• Income redistribution and wage equality through government intervention e.g. inheritance tax
• Employing progressive tax e.g. higher rates of income tax for the richest earners. A progressive tax has an increase in the average rate of tax as income increases. As income increases, the proportion of income taxed increases. This should help reduce inequality, because those on lower incomes pay less tax
• The NMW ensures all workers can access a minimum standard of living. Aims to prevent employees exploiting their workers by paying them low wages, and it prevents people falling into extreme poverty
• In developing countries improving human capital by making education more widely available also try to diversify the economy in order to stimulate economic growth and creation
• Government spending on housing and the provision of public services e.g. healthcare and education. Will help provide equal opportunities for people from all income backgrounds, ensures all members of society can achieve a minimum standard of living

Question 44

What is ‘the earnings trap’ and who does it trap?

Answer 44

• Traps the low-waged in relative poverty
• Affects people in employment on low rates of pay, rather than the unemployed who are unwaged

Question 45

What are the causes of the earnings trap?

Answer 45

• Fiscal drag
• The overlap between the income tax threshold (the level of income at which income tax starts to be paid) and the mens-tested welfare benefits ceiling (the level of income at which means-tested benefits cease to be paid

Question 46

How can the earnings trap be eliminated?

Answer 46

• The income tax threshold could be raised to take low-waged households out of the tax net
• Means-tested benefits could be completely replaced by universal benefits, though this is unlikely to happen
• NMW rate might reduce poverty by being raised to a higher rate than is currently planned in an attempt to prevent employers paying ‘poverty wages’

Question 47

What is poverty?

Answer 47

The state of being extremely poor and not having enough money or income to meet basic needs

Question 48

Answer 48