principles of macroeconomics - final

The Gini coefficient measures… (note, you do not need to know how to graph it, derive it, etc. You need to know what it measures.)

income inequality

Gini of 0 = perfect equality (everyone has the same income)

Gini of 1 = pefect inequality (one person has all the income, everyone else has none)

Does income inequality imply poverty? Explain.

No, income inequality and poverty are different.

Inequality: differences between incomes

Poverty: having too little income to meet basic needs

A country could have high inequality but low poverty (if even the poorest are relatively well off), or low inequality but high poverty (if most people are poor).

Which, in the U.S. is more unequal, income or wealth?

Wealth is much more unequal than income in the U.S.

When measuring income inequality, the convention is to break the population into quintiles. Further, we can discuss “churning.” What is meant by ‘churning’?

Churning: how people move between income groups (quintiles) over time

Example:
Someone may be in the bottom 20% one year but move to a higher quintile later.

What is the difference between a Social Safety Net program — SNAP, Medicaid, SSI — and Social Insurance programs — Social Security, Unemployment Compensation, Workers Compensation?

SOCIAL SAFETY NET:

• Means-tested (based on needs)

• Examples:

  • SNAP (food stamps)

  • Medicaid

  • SSI (Supplemental Security Income)

SOCIAL INSURANCE:

• Based on prior contributions or work

• Examples:

  • Social Security

  • Unemployment Compensation

  • Worker’s Compensation

Social Security, Medicare, and Medicaid are characterized as Entitlements. What does that imply with respect to spending on these programs?

“Entitlement” means that if you meet eligibility criteria (age, work history, income level), you automatically have a legal right to benefits. This makes spending on these programs mandatory, not discretionary.

How does the institution of marriage (family) serve the purpose of social insurance? (this slide was not covered in all sections, but it exists and is available)

Economists talk of the “substitution effect” with respect to the state providing things or help (that were previously or could now be provided by the family). What is meant by this “substitution effect”?

Family members support each other in the times of need (i.e., job loss, illness, old age). Historically, families have been served as a “private” social safety net before these government programs existed.

The “substitution effect” in this context is if the government provides more support (like healthcare, retirement income), families may feel less pressure to take care of each other because the state is now filling that role.

Taxes are characterized as being progressive, proportional, or regressive.

1. What is another name for a proportional tax system?

2. Supposed you are in the top 10% of income earners, under which system — progressive or regressive — do you pay more in taxes?

PROGRESSIVE: higher income = higher percentage paid

PROPORTIONAL: everyone pays the same percentage, no matter their income

REGRESSIVE: lower income = higher percentage of their income paid

1. Flat tax

2. If you’re in the top 10% of income earners, you pay more under a progressive tax system.

Sales taxes are described as regressive in nature. Explain why that is.

Because low-income people spend a larger share of their income on consumption (and thus on sales taxes) than high-income people do.

One argument in favor of re-distributing income (or wealth) is the diminishing marginal utility of money. Use a graph to illustrate this argument.

Hint: The X-axis should be income. Show what impact a given change in come has on utility at different levels of income.

Check graph from notebook.

Economists talk of Efficiency / Equity tradeoff. If we try to address equity by mandating that everyone receive the same income, what impact do you suspect this will have, both as it relates to individual incentives and GDP (the size of the pie)?

If everyone is forced to earn the same income, the incentive to work weakens, meaning that people may not work as hard, innovate, or invest. It would also impact the GDP because it would shrink — the pie becomes smaller because less is produced overall.

What does MPC stand for? Explain it (like I’m 5 years old)

MPC: Marginal Propensity to Consume

It’s how much you spend when you get a little bit more money.

Example:

• If you get $10 and spend $8, your MPC is 0.8.

• 8/10 = 0.8

If your income increases by $1000 per month and your consumption increases by $800, what is your MPC?

MPC = 800/1000 = 0.8

Do low-income consumers have a higher or lower MPC than high-income consumers? Why?

Higher MPC because poorer people need to spend most of their income on essentials (food, rent) so they consume more of any extra money they get.

**Does paying down debt count as saving?

Yes, because paying off debt means you’re not spending now, so it’s treated like saving.

Financial intermediaries (i.e. banks) bring savers (supply) and borrowers (demand) together. Graph it.

Check graph from notes.