Notes: Inequality and Redistribution

Inequality and Redistribution

Political Economics Topic 6

Andrew Pickering

Introduction

  • Variability of Inequality: The topic initially investigates cross-country and temporal variations in inequality measures.

  • Causes and Consequences: It discusses potential causes and consequences associated with inequality.

  • Redistribution Analysis: The discussion transitions to a deeper analysis of how redistribution decisions are made, particularly within democracies.

  • Key Reference: Meltzer and Richard (1981) is a fundamental reference within this topic.

The Key Impetus for Redistribution

  • Focus on Income Inequality: This course primarily concentrates on income inequality; other forms of inequality such as:

    • Wealth inequality.

    • Inequality of opportunity.

  • Implicit Focus: There is an implicit focus on ‘progressive’ redistribution.

A Distinction in Inequality Measurements

  • Ex-ante Inequality: Inequality measured before accounting for taxes and redistribution.

  • Ex-post Inequality: Inequality measured after taxes and redistribution have been considered.

  • Types of Redistribution:

    • Can include redistribution 'in kind' (e.g., state-provided education, healthcare).

Redistribution in Practice

  • Practices Include:

    • Benefits system covering unemployment, disabilities, pensions, and child benefits.

    • Progressive taxation through direct income taxes and indirect taxes.

    • Targeted expenditures, whereby universal provisions like health and education benefit disproportionately from affluent opting out of state provision (example: private schooling).

    • Suggestion that all government policy could be viewed through the lens of redistribution decisions.

  • Redistribution as a ‘Sufficient Statistic’: All government spending and taxation decisions might be interpreted through political economics.

Measures of Inequality and Observations

  • Standard Measure: The Gini coefficient is a common measure, derived from the Lorenz curve reflecting income distribution.

  • Other Measures:

    • Ratio of income of the top quintile to the bottom quintile.

    • The ratio of mean to median income, significant in median voter models.

    • Percentage of total income captured by the top 1%.

  • UK Wage Distribution (2018):

    • Median equivalised disposable income: £28,400

    • Mean equivalised disposable income: £34,200

    • Noted trend: Income data tend to exhibit right-skewed distribution.

Global Gini Coefficients

  • Gini Index Analysis:

    • Income equality index ranges from:

    • 0 (perfect equality) to 1 (perfect inequality).

    • Gini values typically categorized into bands (e.g., 25-30 indicates low inequality, 50-55 suggests high inequality).

Ex Ante and Ex Post Inequality

  • Descriptive Analysis: Figures indicate that market incomes display greater inequalities compared to net incomes in the OECD area, demonstrating Gini coefficients variance across countries. This data reflects the inequality of market income versus net income.

GDP per Capita and Gini Index Relationship

  • Graphical Representation: Illustrates the comparative wealth of a country against the distribution of its wealth, showing how Gini index correlates with GDP per capita.

  • Observations: While rich countries generally show more egalitarian aspects, the findings show significant dispersion in poorer nations.

Time-Series Variation: United States Data

  • Aggregate Income by Quintile (1967, 1979, 2010):

    • A graph displays changes in income distribution across quintiles in the US, indicating shifts toward increased wealth concentration over the decades.

Sources of Inequality

  • Ex Ante and Ex Post Variance:

    • Ex-ante inequality stems from wage distribution discrepancies before taxes, informed by concepts such as productivity distribution.

  • Productivity-Based Explanations:

    • Globalization: Puts downward pressure on unskilled labor wages.

    • Skill-biased Technological Change: Results in greater returns to human capital.

Non-Productivity-Based Explanations

  • Regulatory Reforms:

    • Shifts related to globalization, e.g., reductions in trade barriers and changes in labor protections (like minimum wage adjustments).

    • Simultaneous reductions in unemployment benefits could be factors.

Insights from Thomas Piketty**

  • Capital Income vs. Growth Rate: Piketty argues the relationship $r > g$ implies sustained capital accumulation leads to increasing inequality.

  • Bargaining Effort:

    • Tax policy shifts toward the rich have resulted in elevated ‘bargaining effort’ among corporate leaders, exacerbating income inequality.

Labor Share of Income Trends

  • Labor Share Decline:

    • Notably, labor's share in the economy has decreased, potentially due to enhanced bargaining from capital holders or external structural changes such as technological advancements or globalization impacts.

Socioeconomic Changes as Sources of Inequality

  • Demographic Trends:

    • Rising female employment rates.

    • Delays in marriage and fertility, increased prevalence of single-headed households, and rising assortative mating impacts.

Complexity in Quantifying Inequality Sources

  • Collective Matters:

    • Globalization, technological shifts, socio-economic evolution, wage determination, and redistribution policy remain unresolved and empirical challenges in articulating the changing dynamics of inequality.

Distribution Policy Dilemmas and Ethical Considerations

  • Policy Issues and Objectives: Decisions around redistribution heavily rely on the societal objectives of liberty vs. equality, philosophical issues intertwined with technical aspects.

  • Potential Constraints: Discuss implications such as the Laffer curve and growth interdependence.

Redistribution Decision-Making in Governance

  • Democratic Context: Redistribution in democracies is structured through median voter preferences.

  • Inequality Dynamics: The disparity between median and mean income largely informs the degree of redistribution; the more skewed the income, the higher the propensity for redistribution.

Meltzer and Richard (1981) Model Overview

  • Model Basics:

    • Individual preferences modeled with utility functions and redistribution rates.

    • Shifts in taxation highlight the linearity of tax systems and help understand potential redistribution patterns.

Decentralized Economic Implications and the Laffer Curve

  • Revenue Relationships: The Laffer curve illustrates the correlation between tax revenue potential and tax rate, establishing diminishing returns on high taxation rates.

Government Size Over Time

  • Trends in OECD Countries: An observed increase in the relative size of the public sector over the second half of the 20th century correlates with increased government spending as a proportion of GDP.

  • Explanations for Variances:

    • Various theories, like Wagner's Law, suggest that as society's income increases, the demand for public services elevates.

Ideological Variations:

  • Case Studies: Examining differences in government size philosophies, e.g., Scandinavian models versus the US model, offers insights into historical, cultural, and institutional influences.

Concluding Remarks on Redistributive Policy Decisions

  • Dynamic Decision Making: Decisions to redistribute encompass deep-rooted democratic processes and are reactive to ex-ante inequality measures.

  • Empirical Evidence: The support for the hypothesis of greater redistribution with inequality shows inconsistencies; alternative explanatory frameworks exist to analyze government size issues.

Electoral Impact on Policy

  • Extending Meltzer and Richard:

    • Studies indicate that the electorate influences policy significantly, particularly in terms of tax composition and voter turnout dynamics.

Empirical Examination of Tax Composition

  • Policy Implications: Testing the relationship between inequality and tax types illustrates that as inequality surfaces, income taxation gains prominence while expenditure taxes show varied responses.