Income Distribution

The term “income distribution” is a statistical concept. It shows how a nation’s total income is distributed among its population. The distribution may be equal or unequal, even or uneven. If unequal, there will be few rich and a vast majority will be poor. Their consumption pattern would differ. While poor would have limited choice, the rich would be fortunate to have a large range of goods and services at their disposal.

Rich and poor
Rich and poor | Source

INCOME AND WEALTH

Income and wealth are two different concepts. These are not interchangeable. Income is a flow whereas wealth is a stock. Income measures the receipt of money within a period of time. The wealth represents money earned and saved at a some point of time. One who earns a good income would not be necessarily wealthy as one can overspend and be burdened with debt. On the other hand, a prudent person may not have high income initially but may raise wealth level through savings and investments which would eventually raise the income level.

What is a fair distribution and what is mal-distribution ?

If a family has a 10 members and 10 cars, there could be two extremes. Everyone has one car or only one of them has all the cars. Same situation may arise in a society. Everyone may be earning the same amount of money or no one earns except for one person who earns all the money. In such situations, the distribution could be fair or unfair. In mathematical terms, most fair distribution is expressed as ‘0’ while most unfair as ‘1’. As such, the indicators used like Gini Ratio range from 0 to 1. Sweden is said to have fair income distribution with a ratio of 0.23 while Namibia has the worst at 0.70. Ensuring fair income distribution is an important task for any government. It has a direct bearing on social justice and stability. The people’s income should increase with the economic growth.

What are the effects of income inequality

There are different views on income inequality and its impact on economic growth. Higher inequality tends to retard growth in poor countries but encourages growth in well developed regions. But at the same time such inequalities lead to (i) erosion of social cohesion, and (ii) increase in social unrest. This would certainly result in loss of productivity and damages to property. In any case income inequality should be kept within tolerable limits.

Area under the cuve

Gini Index

How calculated?

There are various indicators of income inequality. Most common is Gini Index, also called Gini Ratio or Gini Coefficent. It is calculated as follows:

  1. Taking a random sample of a reasonable number of families and their total income such as wages and salaries, income from self-employment, investment income like interest, dividend and rental, pensions, unemployment allowance.
  2. Classifying families from poorest to the richest.
  3. Classifying them further into 5 groups, known as "quintiles," each representing 20% of all families.
  4. Absoute income earned by each group is plotted on a chart on cumulative basis.
  5. Area under the curve presented 'real position' which has been described as "B".
  6. By deducting "B" from 0.5, area under "A" is computed.
  7. Now A would be divided by 0.5 which would generate the Gini Rati.
  8. "A" could be described as a buldge. The great the buldge, the further from 'equitable distribution' shown as a straight-line.

But it may be noted that such a ratio does not measure inequality of opportunity. Some countries may have a social structure that presents barriers to upward mobility for certain class of people. A rich country and a poor country may have the same Gini Index as it is reflecting two different things. In a rich country it shows distribution of luxury goods beyond the basic necessities while in a poor country it reflects inequality in material life quality.

Other indicators of in-equality of income

There are more indicators like Theil Ratio and Hoover Index.

In addition, there are other measures of inequality as discussed below:

Human Development Index

which also take into account factors like life expectancy, education and living standard. Later, it was supported by "Quality of Life Index" which also includes law and order situation and basic human rights.

Human Poverty Index

It measures poverty by focusing on economic deprivation such as (i) percentage of people likely to die before the age of 60,(ii) percentage of people have inadequate education, (iii) parentage of the population having disposable incomes of less than 50% of the medium, and (iv) proportion of long term unemployed (12 months of more)

Robin Hood Index

The Robin Hood Index indicates income with the wealthy group and calls for redistribution of income from richer to poor. It is just opposite of Gini Ratio. For example, Namibia has Gini Index of 0.70, it means 30% of the people earn 70% of the national income while 70% are earning just 30%. If some portion of income earned by richer is taken away and passed on to the poorer, it would reduce income-disparity accordingly.


Some related terms

Purchasing Power Parity of PPP

In order to rank countries according to their per-capita income, a theory of exchange called ‘Purchasing Power Parity or (PPP) is used. This theory is based on the ‘law of one price’ which says that identical goods should sell for the same price in two separate markets when there are no transportation costs and no differential taxes. Most famous example of PPP is the Big Mac Index which shows cost of a McDonald’s sandwich in various countries. If Big Mac costs US $ 3 in USA but Rs.110 ($1.3 equivalent) in Pakistan, the PPP would workout at 2.3. This concept is further expanded to long-run exchange rate between the countries. Of course, this a simplified example as the exchange rate will vary based on the basket of items and not just one time.

Pakistan income per capita income in 2008 stood at US$ 1,102 in nominal dollars but the same is US$ 2,625 in PPP$ as reported by the World Bank.

 

Absolute Poverty & Relative Poverty

How to reduce income-disarity

Common measures are (i) sustained economic growth, (ii) reducing unemployment and (iii) progressive taxation and (iv) social safety net.

SUSTAINED ECONOMIC GROWTH

A sustained economic growth should benefit some poor due to spill-over or neighborhood effect.  Rich:Poor gap narrows when (i) industrial units are setup in new area, (ii) new kind of goods are introduced in the market (iii) when new sponsors enters the fields.  Consider case of a textile unit at Karachi setup by the famous Dawood Family of Pakistan. It would hardly have any effect on Rich:Poor Gap as neither the area is new, nor the product has any novelty and also the sponsors old and established industrialist. As against a marble processing plant at Tharparker, Sindh floated by a local entrepreneur will have all the ingredients of narrowing down Rich:Poor Gap though only by a fraction.  But if more projects are encouraged in the way, there would be visible impact in the long run.

REDUCING UNEMPLOYMENT

The economic policy makers should stress on job-creation keeping in view availability of labor in a particular area.  The program should be long-ranged.  It should start by establishing institutions or workshops for skill development and enhancement.  Later, it should encourage those industrial units which use local raw materials, labor and technology.

TAXES

A common to reduce income-inequality is to introduce progressive taxation where higher income groups would pay a higher % of taxes than the lower one. But it has its own problem, as it would discourage investment and all tax evasion. Also people in the low-come bracket would be reluctant to work extra hours or striving for a higher paid jobs as extra income will taken away in lost benefits or higher taxes. This phenomena is known as ‘poverty trap’.

Social Safety Net:

The government or charities may provide to the poor relief in the shape of hard cash, food stamps, in-kind transfer such as school books and uniform, subsidies on public transport or concessions in health-care and utilities.

 

Conclusion

Income disparity is also reflected in rich-poor gap which is becoming wider year by year. This is due to a number of reasons such as lack of education, impact of globalization, economic liberalization, gender difference, culture and personal preference for work, leisure and risk.

The government may take initiative to reduce rich: poor gap by public education which would increase supply of skilled labor, progressive taxation, minimum wage legislation and nationalization and subsidization of products and services

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Comments 27 comments

shahnawaz sheikh profile image

shahnawaz sheikh 5 years ago from karachi

Hello sir , very interesting article indeed

I wanted to add something to this equation that Income inequalities in Pakistan is largely reflect inequalities in the distribution of assets. Since the poor have no assets at hand and the middle class owns few assets so the distribution of income is virtually skewed. Distribution of state owned land, infrastructural development and homes for the at reasonable prices the , human resource development and micro,small and medium-enterprises are some ways that may help. However of-course the role of official bodies set up by federal and provincial governments in this regard have been poor to say the least.

Well hope for the best.thanks for sharing.


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Shahnawaz Sheikh for your comments.


Sana Abdul Razzak  5 years ago

Thank u so much sir, for this informative article .


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thank you Sana Abdul Razzak for your comments.


CHRIS57 profile image

CHRIS57 5 years ago from Northern Germany

Good accumulation of information on this topic.

I do a lot of travelling worldwide. Even if i am sometimes suspicious about statistics i very much honor the realistic representation of the Gini index.

Some proof - as i see it - for the Gini index.

Two weeks ago, business took me to Denmark. I live in Germany. If my figures are fairly right, then Denmark goes for Gini 25% and Germany for 29%. Both values represent a fair distribution of income and wealth.

Travelling with open eyes you even notice the 4% difference in Gini. It is the attitude and ease of living, that make up for the little difference and it can be felt.

The common understanding of people in an economy for the justice in income distribution makes people concentrate on the really important things (economically), which is working hard and not lamenting about injustice.

What it to think of economies with worse Gini indexes? And it doesn´t have to be Namibia or South Africa.

By the way: USA, Russia and China are all at the same Gini level of some 40 plus %.


Michael Schmidt 5 years ago

An interesting article - informative too. This is something that I have been thinking about as an American citizen. Of course this is a rich country and I am thankful for that. But there is a considerable amount of absolute poverty here and even more relative poverty. Our gini coefficient (inequal distribution of wealth) is high and getting higher. (For an interesting graph on income distribution among nations look up "gini coefficient" on wikipedia.org.) I believe that this trend is bad and that it is dangerous to our nation.

If you follow American politics, you may be aware that this has been a very, very big issue in the U.S. for the last couple of years. However this issue is usually under the surface. Instead of discussing income misdistribution we argue about big government/socialism vs. individual responsibility, excessive taxation, excessive government spending, budget defecits etc.

Generally speaking, Democrats/liberals tend to favor more equal distribution of income. It is our belief that income inequality arises in large part from lack of opportunity, education, poor health care for the poor and unfair advantages, tax breaks, and special deals given to the rich. This should be remedied by some combination of more public services: free public education, subsidized health care, etc. These would have a greater relative impact on the poor since they would otherwise be unaffordable while the rich can afford these if they wish. Liberals also often favor progressive taxation as a form of income redistribution. We argue that the rich have accumulated much of their income through unfair advantages and that they have a social and a moral obligation to share their wealth. Finally we believe in greater control of corporations since these are largely owned by the rich and are set up to continue to take money from the poor and the middle class and to give it to the rich in the form of corporate profits and stock market gains.

Republicans/conservatives also claim to favor equal distribution of income but would say that income inequality results from poor people who do not work very hard and who make poor choices vs. wealthy people who work hard, are innovative and imaginative, and who make wise choices with their money. The best way to achieve greater income equality is by allowing the rich to serve as an example to the poor of what they might achieve if they imitate them. And of course the wealthy will provide jobs for the poor as they work in their factories, clean their homes and watch their children. Government should tax and control corporations less, not more. This will enable them to work more efficiently and to become a greater source of wealth for everyone.

One other group about whom we have heard a great deal lately is those of the Tea Party. This is a loosely organized group of people (it is not a formal political party) who named themselves after one of the initial actions that led to the American Revolution some 200 plus years ago: the Boston Tea Party. This was when the American colonists dumped several tons of English tea into the harbor of Boston because of what they saw as excessive taxation by the colonial power of England. The modern Tea Party activists have further claimed that the word, “TEA” stands for, “Taxed Enough Already!”

These Tea Party activists have created quite a stir in American politics. They are a minority among American voters but their power is disproportionately high relative to their number. Democrats (the left) have always been the larger, though more loosely organized party in American politics. Republicans (the right) have always been the smaller though well organized party. While the Democrats have greater numbers, they cannot depend on their members to consistently vote Democratic. The Republican Party, while smaller, is better disciplined and they consistently vote as a single block. The Tea Party comes in at the extreme right of the Republican Party. Because of the Republican Party’s smaller size, they have been rather forced to move toward the extreme right to accommodate the Tea Party activists for fear of losing the majority that they will need to be reelected in upcoming elections. However this is difficult even for the Republican Party because many of the Tea Party’s positions are so very extreme and because many are not well reasoned.

Those of the Tea Party are extreme in their opposition to taxes. Taxes should be radically reduced or even eliminated altogether. They certainly do not believe in redistribution of wealth and to a great extent do not believe in many basic government functions such as public education, public health, or even public infrastructure such as highways. They would have all of these services eliminated or at least “privatized”, i.e. run by private corporations. Individuals could choose to purchase these services from the corporations or not. Everyone is responsible for his or her own well being. By ending government spending and waste we would put more money in individuals’ pockets and thereby improve the overall well being. By eliminating government regulation we would all be motivated to work harder to improve our well being individually and collectively. And we would be stronger, greater, freer, happier, etc.

Perhaps you have determined that I am among the liberals?! I frankly believe that many politicians on the right are manipulating conservatives who understandably do not wish to pay taxes. They are, however, ignoring the fact that the greatest part of our taxes go for services that most of us cherish: Social Security (income for old and sick people), Medicare & Medicaid (health care for old and poor people.) Oh, and did I forget to mention defense? Conservatives seem to believe that our military could never have enough missiles, bombs and guns to keep us safe. These politicians pretend that by eliminating government waste (a real but small problem) that we can reduce taxes while maintaining these valued services. We cannot. These programs take up the overwhelming majority of the government’s money and they are growing rapidly because of our aging population and the rapidly increasing cost of health care.

As for distribution of wealth I favor some redistribution with progressive taxes (where richer people pay a greater percentage of their income than do the poor). This should be combined with government services for all but that are especially aimed at the poor and the lower middle classes: universal health care, public education, and so forth. Government should regulate corporations to prevent monopolistic practices and other actions that tend to favor the rich while hurting the poor.

Of course there are no easy answers to the questions about distribution of wealth. Yes, we should reward people for hard work, and no, we should not reward people for laziness and stupidity. Redistribution of wealth in its extreme would do this. But I fear that our system has been set up to favor the rich at the expense of everyone else. I can imagine our country becoming one with a few very, very rich people and a lot of rather poor people who would have no choice but to work for the rich on the terms of those rich people. To a large extend we already are living in that reality. And I fear that we are moving – perhaps running in that very direction. I hope that I will never live to see the day when we are a poor, 2nd or 3rd world country, but I fear that we may be going in precisely that direction.


Tammie 5 years ago

An article such as this puts a clearer prospective on who is truly "poor."


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Chris57, Michael and Tammie for your comments.


donna 5 years ago

Very interesting article. I might add that the "wealthy" gained their wealth on the backs of the "middle class".


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Donna for your comments.


CHRIS57 profile image

CHRIS57 5 years ago from Northern Germany

Isn´t it all about people in an economy to accept and mutually agree with the income and wealth distribution?

As much as the Gini index already tells a lot about the state of an economy, it is not all. What also has to be taken into account is the transmissibility in a society, the ability of individuals to go from one end of the line to the other, the "slumdog millionaire" effect.

An economy with a fair Gini index may not stand better than an economy with worse Gini but better transmissibility.


bushra mehmood 5 years ago

salam... thank you fr the very informative and well explained article... it really helped clarify concepts


Naeem Qadir Tunio 5 years ago

Such a nice piece of knowledge, it really reminded me my class days at MAJU Karachi.


crystolite profile image

crystolite 5 years ago from Houston TX

Nice article,i will really give it a trial,thanks for sharing.


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Chris57 for your comments. Of course gini index is just an indicator and has to be supported by other indicators.

Also thanks to Bushra Mehmood and Naeem Qadir Tunio for their comments.

Finally, thanks to crystolite.


Atenéia Rocha 5 years ago

As we can see, poverty and richness are results of such a complex system that involves varied factors and a lot of problems. Sometimes, we wonder if someday will be possible the existence of social justice, but this complexity makes us think there will always be rich and poor, because we have the impression rich are fed by the poor.


rameeza suleman 5 years ago

Its an interesting article that add to knowledge and a country like Pakistan is in need to take such measure.


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Ateneia Rocha and Rameeza Sulman for your commments.


m bashir alam 5 years ago

very informative article. butt what can the current pakistani government do to distribute the income fairly because in pakistn there is a huge gap between rich and poor and middle class has become too narrow.


Ari Lamstein profile image

Ari Lamstein 5 years ago from San Francisco, CA

What is the Gini index of the US?


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

US gini Ration was 46 in 2008 and it is rising. It means that rich:poor gap is increasing. It is estimated by the economists that if the present trend continues, the US Gini Ratio would resemble, within the next two decades, that of Mexico at 55. Kindly, see the following link.

http://www.sustainablemiddleclass.com/Gini-Coeffic...


Goodpal profile image

Goodpal 5 years ago

I am glad that I landed on this hub. Enjoyed your clear description of various issues and concepts. Would be gladly following you in the future.

Thanks very much.


hafeezrm profile image

hafeezrm 5 years ago from Pakistan Author

Thanks Goodpal for your comments.


zohaib noor profile image

zohaib noor 4 years ago

asa sir

i am thinking about our country pakistan after reading your article

The only way out to eradicate poverty is to raise the productive power of the individual citizens. For this purpose we need to undergo a long run process of capital accumulation and proliferation of technological skill and know how. It requires huge doses of investment to be injected in the economy, which in turn demands rising of the level of real savings. Nothing will be more unfortunate and demeaning for a nation than the state of affairs in which major part of the hard earned income/saving of the people are confiscated by the public sector through diverse and huge indirect levies to maintain its ever growing unproductive activities, leaving thereby very meager resources for the rest of the economy to inject for the achievement of economic prosperity. There are many questions of this nature which need the attention of the true well wishers of the nation. Capital accumulation and advancement of technology will raise the productive power of the people not only because of the application of more capital and more sophisticated techniques to work with, but also due to the raise in demand for the workers thereby establishing the equilibrium wage rate at some higher level.

So the short term survival strategy for the poor family subsisting at or below poverty lines is for the head of the family to work for more hours, or to held more than one jobs, or for other family members to work as well; while the long term strategy to uplifts the economic conditions of the poor above the poverty line involves raising of productive powers of individuals which in turn requires application of successive doses of capital accumulation and technology over a long period of time. For this purpose we need to release the huge burden of public sector form the feeble shoulders of the poor nation so that enough funds may be available for capital formation.


hafeezrm profile image

hafeezrm 4 years ago from Pakistan Author

Good information and suggestion. Thanks Zohaib Noor.


philabustah profile image

philabustah 2 years ago from Boston, MA.

The answer is this: There is a concentrated effort by the oligarchs to keep more and more of their money in all areas of life, thereby gaining more control and influence while at the same time taking it away from everyone else. Whether or not any conspiracy is at play, we see the result while the mainstream media comes on and tells us there is no class war.

The long answer is: Yours! Excellent article, sir.


Peter Flom profile image

Peter Flom 2 years ago from New York

Interesting article

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