Income distribution and inequality AIER

The Italian economist and engineer Wilfredo Peretto (1848-1923) estimated that income for a population naturally followed a log-normal distribution. Normal, or Gaussian distribution with a central average from negative to positive infinity. Since logarithms are always positive, log-normal distribution is consistent with having an upper limit for maximum income, with a positive average from zero to positive infinity. Pareto’s estimates accurately describe the distribution of income in a country, except for a maximum of one to three percent. The French-American polymath Benoit Mandelbrot (1924-2010) showed that the logarithm of his fat-tailed Mandelbrot-levy or stable parity distribution is an income model at all levels. This indicates that the larger shares of gross income are received by the very rich in the top-tier of income distribution (Figure 1).

Figure 1. Log-General vs. Log-Mandelbrot-Levy Probability distributions are used to model income distribution.

The American economist Simon Kuznets (1901-1985) suggested that income inequality increases during the industrialization process but then decreases, an observation formalized as the Kuznets curve (Figure 2). The Kuznets Curve argues that individuals who apply emerging technologies during the early stages of industrialization primarily reap the most benefits of economic growth. Later, income inequality decreases during the next stage of industrialization as technological advances spread more widely and increase the productivity and wages of workers throughout the economy. This has generally been observed for industrialized countries since the 1870s.

Figure 2. Kuznet curve

Because pollution is associated with industrialization and disproportionately affects the poor, the concept of the environmental Kuznets curve also becomes relevant (Figure 3). Kuznets further noted that during the transition from an agriculturist to an industrial economy, not only is income increasingly concentrated, but pollution and depletion of natural resources occur at an accelerated rate. Industrialization and technological advancement increase resources, although unevenly, longevity and population also increase. Larger populations contribute more to economic activity, but also to pollution emissions, resource depletion, and environmental degradation. However, once a society achieves a certain level of prosperity and well-being, the environmental impact becomes adequately recognized, triggering anti-pollution regulations and shifting to less environmentally harmful practices and technologies. With the advancement of industrialization at a later stage, environmental quality began to improve, the society continued to progress both culturally and economically, became even richer and now has the ability to reduce environmental impacts and focus on remedies.

Figure 3. Environmental Kuznets curve

Whether public policy leads to income inequality depends on whether it is viewed as a value-neutral empirical observation, or as a result of a pernicious failure of social justice. The first does not call for a public policy response, but the second does. Furthermore, the appropriate response should not be aimed at eliminating income inequality, but should also consider whether the causes of inequality are inherently unfair, since only unfair causes can justify amendments through policy, regulations or law. Income inequality occurs naturally because talent, entrepreneurial awareness, aesthetic sensitivity, technical knowledge, physical strength, work ethic, etc. naturally vary from one person to another. Individuals who have the ability or ability to create greater value for others in society should be rewarded for it through free exchange, otherwise there will be no incentive or reward to benefit others.

Thus it becomes important to distinguish between the sources of inequality which are morally objectionable and those which are not. Slaves, for example, pay a significant income to their masters without benefiting themselves. Even after liberation, formerly enslaved people still faced structural discrimination for decades where their own income and property rights were not equally protected. Judgment Or Actually. Even enslaved people who had acquired technical skills, such as blacksmiths, mechanics, mariners, technicians, etc., lost access to the capital tools they were usually trained to use. Although they may have retained the technical knowledge, a recently released blacksmith was still struggling to acquire the tools and equipment needed to practice his business. His income must rise above the value of his physical labor to overcome this obstacle.

Furthermore, most slave people could acquire more education, training and capital equipment than they were allowed before they were released, and in many cases discrimination prevented them from doing so for a long time. An individual’s place in income distribution usually does not last from one generation to the next unless the underlying structural constraints continue, such as institutional inequality, which can potentially be addressed through public policy.

The most common argument against income inequality fails to consider whether it is through rewarding growth-enhancing productive activities that benefit society as a whole, or from unproductive rent-seeking that hinders workers’ productivity and economic growth. Hiring is the pursuit of income based on legal-institutional incompetence. One type of rent seeking occurs when an industry lobbies the government for subsidies, favorable tax treatments, restricted licensing, or controls that prevent or suppress competition by providing protected industry exclusive profits at the expense of their customers.

These measures provide additional income to lobbying agencies and industries, without creating any additional value for their society. Hiring protects less productive organizations from competition and enables them to extract higher prices from the public. Hiring companies use bribes and political contributions to encourage elected officials and unelected bureaucrats to maintain a legal-institutional environment that protects them and their products from competition and enables them to charge higher prices. Hiring can increase income within the benefit of the company or industry, but it can only come at the expense of others in the community. Such non-productive rent-seeking calls for reform of the distorted legal-institutional environment so that rent-seeking is not rewarded or encouraged.

Inflation is another factor in income inequality, since high-income households generally borrow more and are less likely to default on their debt. Inflation enables them to repay their debts with less purchasing power, transferring assets from lenders to borrowers. A lower percentage of low-income households benefit from inflation through borrowing, and those who generally benefit less than high-income households. Thus, the most important policy that the government can formulate to reduce income inequality is to reduce or eliminate inflation.

Always, however, the proposed solution to any type of income inequality is an arbitrary and highly punitive progressive tax on all income and assets, regardless of the way it is earned. Unfortunately, such a wide and arbitrary tax pushes more resources and talent towards unproductive rent-seeking. It should also be noted that the evidence for income inequality employed to justify such a system usually relies on faulty systems that ignore the effects of progressive tax and transfer payments, both of which work to eliminate existing income inequality. This so-called solution to the punitive tax policy is worse than the problem it was designed to solve.

Robert F. Mulligan

Robert Mulligan

Robert F. Mulligan is a career educator and research economist working to understand how monetary policy drives business cycles, creating recessions and limiting long-term economic growth. His research interests include executive compensation, entrepreneurship, market processes, credit markets, economic history, time series fractal analysis, financial market pricing skills, maritime economics and energy economics.

He is its author Entrepreneurial and human experience And Executive Compensation. Both books can be purchased through Amazon as hard copy or Kindle ebook.

He is from Westbury, New York and holds a BS in Civil Engineering from the Illinois Institute of Technology and an MA and PhD in Economics from Binghamton State University of New York. He also received an Advanced Studies Certificate in International Economic Policy Research from the German Institut fuer Weltwirtschaft Kiel. He has taught at SUNY Binghamton, Clarkson University, and the University of Western Carolina.

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