Chapter 5 Economic Development Notes

Economic Development: Chapter 5 - Key Themes

Examines problems of poverty and income inequality, measures of poverty and inequality, and policy approaches for poverty reduction and income distribution in developing countries.

Prevalence of Poverty and Inequality

Over 1.2 billion people live on less than $$1.25 per day; the poorest 40% hold 5% of world income, and the poorest 20% hold 1.5% of total income.

Characteristics of Impoverished Individuals

Undernutrition, poor health, low or no literacy, limited political voice, social exclusion, and living in environmentally degraded areas.

Income Distribution

How a nation's total income is shared across its population, indicating the level of economic inequality.

Measures of Income Distribution

Personal or size distributions (quintiles, deciles), Kuznets ratio, Lorenz curves, Gini coefficients, and functional or distributive factor share distributions.

Quintiles

Dividing a population into 5 equal parts, based on income, to measure income distribution.

Deciles

Dividing a population into 10 equal parts, based on income, to measure income distribution.

Lorenz Curves

A graphical representation showing income dispersion in a country, illustrating the quantitative relationship between the percentage of income recipients and the percentage of total income they receive.

Gini Coefficients

The ratio of the area between the diagonal (line of equality) and the Lorenz curve to the total area of the half square containing the curve; ranges from 0 (perfect equality) to 1 (perfect inequality).

Functional or Factor Share Distribution

Measures income inequality by comparing the shares of total national income received by each factor of production (e.g., rent, profit, wages).

Poverty

A condition wherein individuals or communities lack financial resources and essentials needed to maintain a minimum standard of living, including adequate food and clean water, education, healthcare, and employment opportunities.

Absolute Poverty

A severe condition where individuals cannot meet basic survival needs, measured by the international poverty line (e.g., $$1.25/day set by the World Bank).

Head Count Index/Ratio (H/N)

The proportion of a population living below the poverty line.

Total Poverty Gap (TPG)

Measures the total money needed per day to raise everyone below the poverty line (Yp) up to that line.

Average Poverty Gap (APG)

Represents how much, on average, each poor person needs to contribute per day to eliminate poverty.

Normalized Poverty Gap (NPG)

A depth of poverty measure showing how far below the poverty line the poor are, as a percentage of that line. Implemented as NPG = (Yp - Yi) / Yp.

Average Income Shortfall (AIS)

Measures the average income the poor lack to reach the poverty line, reformulated as AIS = (Yp - Yi)/N.

Multidimensional Poverty Measurement - 1st Cutoff

Identifies if someone is deprived in a specific indicator (e.g., nutrition, education).

Multidimensional Poverty Measurement - 2nd Cutoff

Determines if the deprivation score across indicators is high enough to classify someone as multidimensionally poor.

Foster-Greer-Thorbecke (FGT) Index - B1 = 1

Represents the Headcount Index in poverty measurement.

Foster-Greer-Thorbecke (FGT) Index - B1 = 0

Represents the Normalized Poverty Gap Index in poverty measurement.

Foster-Greer-Thorbecke (FGT) Index - B1 = 2

Represents the Poverty Severity Index that gives weight to extreme poverty cases.

Economic Inefficiency from Extreme Inequality

Limits loan qualification, results in suboptimal education for talented children from poor backgrounds, affects overall savings rates, and reduces agricultural productivity due to non-efficient scale farming.

Social Instability from Extreme Inequality

Enhances the political and economic power of the rich, leading to cronyism and ineffective institutions, is associated with high violent crime rates, and hinders institutional improvements.

Kuznets’ Inverted-U Hypothesis

Suggests that income inequality worsens in early growth stages but improves later on, where early growth benefits limited sectors with high wages while returns to education initially rise, only to fall later with increasing educated worker supply.

Multidimensional Poverty Index (MPI)

Assesses households based on three dimensions: health, education, and wealth, presenting a comprehensive poverty profile. It is expressed as H*A, where H is the headcount ratio and A is the average intensity of deprivation.

MPI Calculation (H*A)

H is the headcount ratio (% of people living in multidimensional poverty), and A is the average intensity of deprivation (% of weighted indicators by which poor households are deprived).

Economic Characteristics of High-Poverty Groups

Poor populations are predominantly located in rural areas, including women, ethnic minorities, and indigenous populations, characterized by reliance on subsistence agriculture and limited access to services.

Women and Poverty

Women constitute a large proportion of the world's poor, often facing harsher deprivation due to challenges like limited access to education, lower earnings, and lack of health services.

Government Policy Areas for Addressing Income Inequality and Poverty

Policies aimed at altering the functional distribution of income, mitigating size distribution at upper levels, and increasing size distribution at lower levels.

Policy: Altering Functional Distribution of Income

Addressing relative factor prices to balance labor and capital returns, involving reducing labor's relative return to shift employer preferences towards labor-intensive production methods.

Policy: Modifying Size Distribution by Increasing Assets of the Poor

Addresses the unequal ownership of assets in developing countries, advocating for land reforms and access to finance for small entrepreneurs.

Policy: Progressive Income and Wealth Taxes

Necessary for financial resource allocation towards poverty alleviation, ensuring that the rich contribute a greater percentage relative to their wealth.

Policy: Direct Transfer Payments and Public Services

Implement policies to provide essential goods and services to eradicate poverty while preventing dependency, focusing on efficient targeting of resources to genuine beneficiaries.