Revision on income inequality
In this revision note we recap some of the causes of income inequality in the economy and look at
what has happened to relative poverty in Great Britain in recent years.
Income is a flow of earnings from a stock of wealth
The main sources of income are:
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•
•
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Wages and salaries from a job
Income from self-employment
Income from welfare benefits (also known as transfer payments)
Investment income from assets such as shares, property, savings
There remains a wide and structural divide in the distribution of income within the UK – this is
true of every country also the scale of absolute and relative poverty differs from nation to nation.
Absolute poverty:
1. United Nations definition: A severe and persistent deprivation of basic human needs
2. Concept is based on people whose incomes fall well short of what is required to live a
modest but adequate existence
3. Value judgements involved when deciding what counts as a modest but adequate
4. Still some instances in the UK, especially in communities suffering deep economic and
social exclusion and also among the most poorly paid migrant workers
5. Income falling well below a low-pay threshold e.g. below 40% of median income (i.e. deep
poverty measured solely by income and adjusted by household size)
Main causes include – long-term economic exclusion (i.e. deep rooted structural unemployment);
existence of households where no one works; persistence of ‘poverty pay’ / ‘exploitation pay’ e.g.
in the informal economy. Homelessness, addiction
Relative poverty:
1. Where individual or household income falls below some national average or median income
2. Official relative poverty line is household income < 60% of median income (see chart
below)
3. Relative poverty is closely linked to the scale of income (and wealth) inequality
4. Can be measured by the Lorenz Curve / Gini Coefficient
5. Richest 10% of households take 32% of original income and 27% of post-tax income
6. Growing gap between rich and poor within the economy / across society
Main causes of relative poverty:
1. Significant pay differentials in the labour market – with high and rising rewards to skilled
labour / executive / bonuses and other performance related pay; and wages at the bottom
end rising less quickly; employer discrimination must also be considered
2. Changes to the progressivity of direct and indirect taxes – lower top rate income
taxes and the abolition of the 10% starting rate in 2008 – the income tax system is less
progressive than it used to be. And a range of new and higher indirect taxes may have
contributed to worsening inequality.
3. Trends in the availability and levels of welfare benefits e.g. are they linked to incomes
or prices? Incomes tend to rise faster than prices.
4. Inequalities in income flows that result from the ownership of wealth – e.g. buy to let
investors build up property wealth and generate a flow of rental income; interest from
savings and dividends from the ownership of shares
5. Poverty and unemployment; relative poverty experienced by pensioners without
occupational pensions – who are then dependent on state welfare assistance
Unemployment and low pay are the two main causes of permanent income inequality in the UK
Evidence on income inequality for Great Britain
(Main sources used: Social Trends 38, Office for National Statistics)
Income Inequality in Great
Britain
£ per week at constant
2005/06 prices
10th percentile
Median
90th percentile
Ratio 0f 90th to 10th
percentile
1979
130.4
230.9
407.9
3.13
1981
129.0
227.8
417.0
3.23
1987
135.4
261.5
523.3
3.86
1990
134.1
287.4
594.9
4.44
1997
149.3
302.6
616.8
4.13
2006
181.0
361.8
733.9
4.05
Notice the trend rise in inequality
during the 1980s – this has fallen
somewhat on the last decade but it
still much higher than it was thirty
years ago. The chart on the left
shows the distribution of gross
weekly household disposable income
A household is defined as being in
income poverty (‘poverty’ for short)
if its income is less than 60 per cent
of the contemporary UK median
household income
Why take median rather than mean
income?
Government policies to reduce income inequality / relative poverty
1. 3.8 million children in the UK were living in poverty in 2006
2. 1.5 million young adults aged 16 to 24 were in poverty in 2006
3. Some five million women (20 per cent) and four million men (18 per cent) belong to
households in poverty
A range of government policies have been adopted under the broad banner of “Welfare to Work” –
here are ten to think about
1. Introduction of and increases in the value of the National Minimum Wage
2. Working Families Tax Credit (benefits paid through the tax system as reductions in the
amount of tax paid rather than a cash welfare payment)
3. Increases in the real value of Child Benefit and the introduction of the Children’s Tax Credit
4. Minimum Income Guarantee for Pensioners and commitment to restore the link between
the state pension and average earnings of people in work
5. New Deal Programme for the Long Term Unemployed
6. Expansion of child care schemes including Sure Start for low income mothers who want to
work
7. Gradual shift towards means tested benefits rather than universal benefits
8. Restoration of the student maintenance grant
9. Educational maintenance grants for people staying on in further education beyond the age
of 16
10. Financial support for key workers to get a mortgage and move onto the housing ladder
But
1. No change to the top rates of income tax (remains at 40%)
2. Minimum wage remains modest as a fraction of median earnings
3. Introduction of top-up tuition fees for university students
4. Rise in the real value of many indirect taxes / excise duties
5. Abolition of the 10% starting rate of income tax
Big rises in the level of the council tax – hitting many lower income families - In 2005/06,
some 6 million people in England and Wales belonged to households in poverty which paid
full Council Tax
Evaluation
The key policy debate is which measures are most effective in reducing poverty and whether there
is a potential trade-off between equity (fairness) and efficiency (incentive to work, earn money).
In the long term, there may be no trade –off, since social inequalities create external costs which
can ultimately undermine the competitiveness of an economy and society.