Distribution of Wealth + Income

Question 1

Income

Answer 1

The flow of money an individual receives in return for their factors of production (labour + entrepreneurship), usually in the form of salary, dividends + wages.

Question 2

Wealth

Answer 2

The store of money an individual has at a specific moment in time eg. assets, capital and factors of production.

Question 3

Inequality

Answer 3

Some individuals, households or communities have a disproportionate amount of the total income or wealth, likely leading to greater or fewer opportunities.

Question 4

Inquity

Answer 4

A system which can be described as being ‘unfair’ or ‘unjust’ in some way, in relation to the needs of citizens.

Question 5

Causes of wealth + income inequality (13 +)

Answer 5

Population size
The quality/ quantity of education systems
Corruption
Weak Tax systems
Lack of Welfare provision
Weak redistribution of wealth
Occupational immobility
Workers’ rights
Trade Unions
Minimum Wages
Quality of financial sector
Regulation / Regulatory Capture
Crime Rates

Question 6

Relationship between wealth + income

Answer 6

Those with greater levels of wealth, eg. inheritance, are able to access higher levels of income (top-paying jobs) and as people earn greater incomes, their wealth increases.

For example, wealthy individuals can afford to use private systems of education, allowing them to become highly skilled.

Consequently, higher skilled labourers are traditionally rewarded with greater wages / income. Subsequently, those with high incomes can access financial assets with greater yields, leading to a further accumulation of wealth.

Question 7

How do wage differentials affect inequality ?

Answer 7

Within labour markets, wage differentials exist in order to reward highly skilled labourers with greater wages.

This higher wage acts as an incentive for individuals to spend time obtaining these skills rather than getting a lower skilled job.

In other words, wage differentials allow for opportunity costs of education to be compensated for.

Wage differentials can lead to inequality as some individuals are unable to access the skills required to access high income jobs. Consequently income inequality can worsen.

Question 8

How does age affect inequality ?

Answer 8

Older employees may receive higher wages than younger employees as they have greater experience, leading them to be promoted and advance along pay scales.

On the other hand, older workers may become less mobile and productive, leading them to be discriminated against with lower wages.

Once retired, an individual’s income is derived from their state pension and any other assets (wealth) they possess.

It is likely that older individuals will hold greater wealth as they have been able to accumulate this over time and grow their wealth, eg. returns on investments.

Question 9

How does market failure (4) affect inequality ?

Answer 9

1. Missing markets in education or training
2. Geographical Factor Immobility
3. Information Failure
4. Underconsumption of merit goods

Question 10

Inequality vs Market Forces

Answer 10

Inequality undermines the market mechanisms as it assumes that all consumers demand in a way which will maximise their personal utility.

Demand is assumed to be MPB, requiring a willingness and ability to consume at a personal utility maximising level.

Wealth and Income inequality distorts market equilibrium as wealthier individuals have a greater ability to consume at a high quantity, despite a lesser need to do so.

Therefore, resources are misallocated towards the rich individuals who gain less utility than poorer individuals would gain.

Question 11

Social Cost of Inequality

Answer 11

Data has shown that inequality leads to greater levels of social dissent and anger. For example, an economy with a gini coefficient above 0.4 will likely experience greater crime rates, social unrest and political dissent.

Question 12

Benefits of Inequality

Answer 12

Inequality can be equitable if resources are distributed in a way that is ‘fair’ in regards to effort and contributions to society.

Inequality also provides incentives for labourers to obtain skills. Higher wages signal where resources are required in order to maximise welfare. These wages incentives labour to train and compensate for time spent training rather than earning.

Inequality also promotes investment and entrepreneurship in the macroeconomy. This is crucial as it leads to long-run growth and more desirable consumer outcomes. Inequality allows those will higher incomes to invest in firms in the pursuit of potential profits and returns, eg. wealth accumulation.

Trickle-down arguments

Question 13

Absolute Poverty

Answer 13

Where household income is insufficient to purchase the minimum basket of goods and services needed for survival. The UN defines this as those living at <$1 per day at 1985 PPP rates.

Question 14

Relative Poverty

Answer 14

Where household income is insufficient to access the average standard of living in the economy. In the UK, this is falling below 60% of median household income for three of the past four years.

Question 15

Causes of Poverty (5)

Answer 15

Weak financial institutions
Poor infrastructure
Missing Markets
Political instability
Lack of property rights

Question 16

Policies to reduce poverty (5)

Answer 16

Trickle Down
Increase Tax / Welfare
Imposing / Increasing NMW
Increase Tax Free Allowance
Invest in education

Question 17

How does trickle down reduce poverty (Analysis + Problems + Depends Upon)

Answer 17

Analysis - This would lower taxes, increasing consumption in the short-run. In the long-run, investment into factors of production will lead to job creation and falling unemployment.

Problems - Tax cuts may just benefit the wealthy and they may choose not to reinvest into the economy. This can lead to worsening inequality and poverty levels rising.

Depends upon - The willingness of investors, potential cuts to welfare due to lost tax revenue and a worsening national debt.

Question 18

How how can increasing tax / welfare reduced poverty ? (analysis + Problems + depends upon)

Answer 18

Analysis - Increased welfare payments increases the income of poorer income individuals and increased taxes reduces the income of the wealthy. Consequently, this may lead to a reduction in inequality across the economy.

Problems - The poverty trap may occur, where people choose to live on benefits rather than work as wages fall below welfare payments, leading to no incentive to work.

Depends upon - How easy it is to access benefits and the availability of jobs for lower income individuals to access.

Question 19

How can changes to NMW reduce poverty ? (analysis + Problems + Depends upon)

Answer 19

Analysis - The incentive to work will increase as the reward (wages) have increased. This will reduce voluntary unemployment and increase the disposable income of lower income households.

Problems - Firms may employ less workers if the minimum wage increases, as labour costs will have increased. Consequently, the marginal cost will increase, leading to the quantity of labour employed reducing.

Depends upon - The proportion of total costs which are labour costs.

Question 20

How can increasing the personal allowance reduce poverty ? (analysis + problems + depends )

Answer 20

Analysis - There is an increased incentive to work as the burden of tax has reduced. This also increases consumers’ disposable income, allowing them to consume at a utility maximising level.

Problems - Tax revenue will decrease, potentially leading to a reduction in the provision of welfare. This policy may be ineffective if sufficient jobs do not exist.

Depends upon - The existing levels of voluntary unemployment vs frictional unemployment.

Question 21

How can investment in education reduce poverty (analysis + problems + depends upon)

Answer 21

Analysis - Investment into education will lead to an increase in human capital and the skills held by the labourforce. Consequently, future incomes will be increased, leading to a reduction in poverty.

Problems - This will create an opportunity cost on the government budget and potentially require welfare cuts to be made to fund the investment. This will also have a large time lag associated with the benefits of education.

Depends upon - Wage differentials must be present in order to incentivise education and it assumes that all part of the UK will have equal access to the education.