Income and Wealth Distribution

Income and Wealth Distribution

Income and wealth
Income is the flow of money to the factors of production, e.g. rent, interest, wages, and profit.  Wealth is the stock of assets possessed by an entity, e.g. property, shares, bonds, etc. Wealth generates income, e.g. rent from property.

Distribution of income or wealth

This is the spread of income or wealth among different individuals, classes or groups within a country. It shows how much income or wealth an individual has in relation to others in the society.

The distribution may be equal or unequal. Equality or equal distribution of income or wealth occurs when different individuals or groups have the same amount of income or wealth regardless of age, gender, race or occupation. While inequality is a situation in which income or wealth is unevenly distributed in a country. 

Equitable distribution occurs when the income distribution is fair to all. This occurs when all citizens have the same opportunity to acquire assets and generate income. Equitable distribution is part of normative economics as what is fair to one person may not be fair to another. In other words, fairness is subjective as it is based on value judgement. 

Measurement of income inequality

Lorenz Curve
The Lorenz curve is a graph that shows the percentage of all incomes (or wealth) possessed by households at successive income (or wealth) levels. It plots the cumulative number of households against the cumulative income (or wealth). A 45-degree line is included to help determine the extent of inequality (Figure 1 below). The 45-degree line is a line of equality. The distance between the bowed-out Lorenz curve and the line of equality is the amount of inequality. The farther away the Lorenz curve is from the line of equality, the greater the level of inequality in the economy. The closer, the less inequality in the country. 

In Figure 2 below, the lowest 30% of the population controls 10% of the country’s total income while 80% of the population has 60% of the total income. The top 20% of the population (100% minus 80%) controls 40% of total income (100% minus 60%). 

Figure 1: The Lorenz curve

A Lorenz curve


Gini Coefficient
It is a numerical measure of inequality that is calculated from the Lorenz curve. It is obtained by dividing the area between the line of equality and the Lorenz curve by the total area of the triangle under the 45-degree line.

The Gini coefficient is a number between 0 (0%) and 1 (100%). A value of zero (or 0%) implies there is perfect equality, that is people have the same income or wealth. A value of 1 (or 100%) shows perfect inequality where all the income or wealth in the society belongs to just one person. 

Figure 2: Measuring inequality with Lorenz curve

Measuring inequality with Lorenz curve
Causes of inequality

This is either the mental or physical capacity to perform a certain job or task that pays well than others. The capacity may be learned and/or enhanced through education and training, e.g. engineering, surgery, etc. Heredity and environment can also influence the development of certain attributes that assist in the performance of certain tasks that pay well, e.g. sports.

Possession of wealth
People that have substantial amount of wealth, either physical such as land or financial such as shares, receive a lot of income in form of rents or dividends. 

Some people inherit wealth from their families and have more income than others. These people were lucky to be born into wealthy families or married to rich husbands. 

Some earn more or have acquired more wealth than others because they have been given more opportunities than others based on their race, gender, age, religion or nationality. Consequently, they get higher pay, benefits and promotion than their peers. These are not based on the productivity of the workers. 

Trade union membership
Unionised workers tend to earn higher than non-unionised workers because the trade union can exercise monopoly power and collectively negotiate higher pay for its members. This is one of the reasons for wage differentials in the labour market.

Nature of the job
The nature of some jobs makes them unattractive to many people. So the demand for them exceeds the supply, thereby making them command higher wages than other jobs. Examples are dangerous jobs like commercial diver, forester, police officer and fire-fighter.

This is one of the major causes of income inequality. Unemployed people earn no income and rely on benefits from the government that are not enough for a decent living standard. The gap between the unemployed and the employed keeps getting wider as benefits do not get increased as wages.

Monopoly power
Monopolies enrich their owners at the expense of the consumers by charging exorbitant prices that ensure that profits distributed to their shareholders are as high as possible. They have the power to turn consumer surplus into producer surplus by charging different prices for the same product based on the consumers’ ability to pay (price discrimination). They end up making a lot of sales and profit to the detriment of the consumers while benefitting their owners.

The knowledge of new technologies is contributing to rising income and employment, e.g. artificial intelligence, cloud computing, data science, etc. It is also widening the income gap between those who possess them and those who do not.

Disadvantages of inequality

Market failure
Inequality leads to inefficient utilisation of resources in the market economy. The amount of income an individual has determines the amount of goods he or she consumes in a market economy. Those with less income consume fewer goods and may have a low standard of living.

Tension and crisis
The wide gap between low-income and high-income groups can lead to protests and rioting by those who can barely cater to their needs. This can ultimately bring down the government if it is perceived that it is not doing enough to alleviate their suffering; they may violently seek a change of government through their actions.

Higher crime rate
Many may take to crimes in order to satisfy their wants. This will create further problems for the government such as increased spending on maintaining law and order.

Increased government spending 
Government has to spend more in order to redistribute income. Benefits have to be paid to assist the poor and the unemployed. Subsidised housing, education and other services have to be provided by the government for low-income earners. This may result in a budget deficit and increased borrowing by the government.

Capital flight
Widespread inequality in an economy could make the government increase the tax rate paid by the rich in order to have enough money to provide more public services for benefit of the low-income individuals. High-income earners may have to move their investments to a more conducive environment.

Advantages of inequality
Hard work
Inequality encourages people to work harder in order to earn more since they know this can increase their income and bridge the gap between them and the high-income earners in the society. They also make effort to acquire more skills in order to improve their earning capacity. This can benefit the economy by increasing the total output of the country. An egalitarian society promotes laziness and a lack of self-reliance.

Promoting entrepreneurship
The market economy promotes entrepreneurship even though there may be inequality. People become more adventurous and set up new businesses. There is competition that promotes innovation and invention.

Reduced unemployment
Jobs are created as people seek out new businesses. The standard of living of those who become employed will rise as they earn income to meet up with their needs. 

Higher Gross Domestic Product (GDP)
Because people are motivated to work harder and set up businesses, the country would experience economic growth. That is to say, the total output of the economy will increase.