Sunday, April 20, 2008

Inequality and Growth

Mankiw writes on the subject drawing mostly on the supply and demand of skilled v. unskilled labor. Why does it seem that economic growth and income inequality be so closely related? What is the correct way to think about this relationship? I’m open to comments, but here are my thoughts as well (beyond Tournament pay, marginal income tax rates widening pre-tax incomes, and the fact that we are not measuring the same people over time):

1) We do not really know what income inequality actually means. The most common measure is the Gini Coefficient, which would be comical were it not taken so seriously. Perfect Gini equality exists when everyone has the same level of income, while perfect Gini inequality exists when one person has all of the income. To restate perfect Gini “inequality” then is to say everyone has the same income except one person. Sure everyone with the same income has $0, but we already chose to ignore the absolute levels of income when we began discussing inequality.

2) We measure growth and inequality according to arbitrary geopolitical borders over arbitrary intervals of time, which give us arbitrary results. Growth has very important implications for cost-of-living via land prices which artificially inflate income inequality measures.

3) The poor are drawn to areas of high income growth where they improve their standard of living, but drive up inequality measures. Suppose there are two open check-out lines at Wal-Mart. One line has a highly motivated and efficient cashier where customers are moving very quickly through, the second line has a very very old cashier who is also partially blind so customers move through very slowly. Which line is the longest? The first line with the fast cashier, as people at the end of the line in the second move to the first.


Gabriel said...

Two words... Oded Galor!

I've been referencing that page a lot lately.

Matt E. Ryan said...

#3 lends itself to a point I like to make-- what about inequality could be a good thing? People assume that it is unilaterally bad...but if everyone continually made the same amount, could a culture develop that everyone makes the same amount and that's the way it always will be? Without the belief that you could achieve, how much achievement would we see?