Poverty & Equity

Absolute Poverty:

“A condition characterized by severe deprivation of basic human needs, including food, safe drinking water, sanitation facilities, health, shelter, education and information. It depends not only on income but also on access to services”

For the consideration of poverty many countries adopt a national poverty line which considers the income needed to satisfy minimum needs. The World Bank consider extreme poverty to be living on less than $1.25 a day and moderate poverty as living on less than $2 a day.

Relative Poverty:

Relative poverty takes into consideration the income of an individual or household and compares it to the median income of that economy. In relation to the Lorenz curve if there was perfect income equality there would be no relative poverty. In this case they still have enough money to survive, and it is more based around the cultural environment.

Causes of Poverty

There are many causes of poverty; some apply more to certain countries than others

  • Low Wages/Income
  • Unemployment

The individual will have no income, and in countries where there is no welfare system they will struggle to survive.

  • Lack of Human Capital

This is where the individual lacks training or education to get a job, or if their health is at a state where they cannot be productive. This is the case in my countries in Africa as there is shortage of education and health.

  • Geography

Certain areas have less job opportunities, but the people cannot afford to move. There may only be low paying jobs which have adverse effects on health in the given area.

  • Age

In a country with no benefits and no welfare system anyone of old age will struggle to survive unless they have children supporting them

  • Shortage of Merit & Public Goods

This is a lack of education, no housing available, no healthcare, bad living conditions. Etc.

  • War

Has adverse effects on human capital, government, job opportunity, and geography

This can lead into a poverty cycle; it is extremely difficult to break out off. In most places where there is extreme poverty and absolute poverty it is a combination of causes which means that the entire system needs to be rebooted.

Consequences of Poverty

There are many consequences of poverty, as it affects many aspects of life.

  • Low living standards

This may mean that those suffering from poverty may not have access to suitable housing, clean water, or basic food items. This usually results in increased disease and infection

  • Lack of Access to Healthcare (high rates of preventable diseases)

Many people suffer as a result of low living standards and there may not be a healthcare system available. Any healthcare that is offered may come at a considerable expense which they cannot afford.

  • Lack of Access to Education

There are no available institutions for education, making it difficult to break out off the poverty cycle

  • Social Problems

Crime, Violence, Family Breakdown, etc.

  • High rates of infant mortality

The Role of Taxation in Promoting Equity

Direct Tax: Income, Corporation, Capital Gains, National Insurance, Inheritance, etc.

Indirect Tax: Excise (fuel, cigarettes, and alcohol), VAT (Value Added Tax), Sales Tax, Tariffs, etc.

Direct tax is usually a tool used in order to redistribute income, whereas indirect tax is usually used to solve negative externalities related with the consumption of certain products. Indirect taxes are avoidable as they are taxes on consumption.

Proportional Taxation:

This is taxation where it remains at a fixed rate, so it does not depend on income. Therefore it will not change if there an increase or decrease in income.

Progressive Taxation:

This is where the rate of taxation depends on a change in income. So if income were to increase of an individual so would the tax paid. If a tax system is very progressive then the equality in income distribution after taxes is greater. (Suits Index)

Regressive Taxation:

This is the case where the tax rate decreases as the amount subject to taxation increases. This type of tax is more of a burden with those on a lower income, as a result of income elasticity of demand of staple items.

Other Measures to Promote Equity

The provision of public and merit goods by the government, this is in order to supply these to people with a low income who otherwise would not be able to afford it.

The government would do this through the direct provision of these goods, or create subsidies which would make it more affordable for those on lower incomes.

For example this can be the provision of health care services, education institutions. This can also involve the provision of infrastructure that would enable suitable housing (e.g. council houses), clean water supply, access to food (food stamps), and general sanitation.

Without government provisions of these goods it would be under-consumed due to poverty and low income in a free market.

Transfer Payments

This would be the direct redistribution of income to individuals by the government, it is to take money away from certain groups and bring it towards other groups.  This is done in the case of the elderly where they cannot work, so the income produced by those working goes to assisting people in need. In this example it would take the form of old age pension.

There are various other examples of this such as unemployment benefit, child allowances, war veteran benefits, student grants, disability benefits, maternity benefits, and housing benefits, and fuel allowances.

The Relationship between Equity and Efficiency

Government policies to promote equity may have positive and negative effects on the efficiency in the allocation of resources, and growth.

For example the pursuit of high income tax will disincentive high income earner to work, and may encourage them to save their money or to move their money out of the country.

Indirect taxes as a result of their regressive nature will have a negative effect on the distribution of income. But there is also the factor that they are placed to reduce negative externalities which conflicts with the allocation of resources in regards to benefitting the economy.

There can be a trade-off between income equity/equality and efficiency as you this involves direct intervention in the economy which may affect price mechanisms and market forces.

Government expenditure tends to be a restraint on the overall budget. But there is also the factor that government intervention even though the intention may be good may not result in greater equity, and only achieve allocative inefficiency and misallocation of resources.

When there is considerable income inequality it discourages labour as they may have to work harder to receive the same wage, and this leads to less productivity. Furthermore, transfer payments may reduce allocative efficiency as it may discourage people from seeking work. But there is also the argument the vulnerable groups’ still need protection.

Long Run Aggregate Supply

There are two theoretical outlooks on long run aggregate supply; there is the neo-classical/monetarist model and then the Keynesian model.

Neo-classical/Monetarist Model

Picture1

In the short run producers will respond to a change in price, but also higher demand by bringing in more inputs of production and utilising existing means of production. But in the long run in this model it can be note that supply is independent of price.

This makes the assumption that all prices are flexible, and if some prices go up others will go down. Furthermore, this displays that the potential of an economy to grow is based on four central factors land, labour, capital, and enterprise. There can also be an increase in productivity and efficiency which is the better utilisation of already existing factors of production.

An outward shift would be considered an increase in productive potential. This particular model also states that at that given point all resources are being employed and there is a point of full employment.

As a result of this model monetarists would argue that stimulating aggregate demand is artificial manner of promoting growth, and therefore shows that fiscal policy is ineffective.

Equilibrium Neo-classical/Monetarist Model

Picture3

This diagram determines that at the point aggregate demand meets long run aggregate supply that it is at the point of full employment of all resources including labour.  There can only be short term fluctuations as ultimately prices are completely flexible so there are no inflationary or recessionary gaps. The economy should always go back to the point of full employment level of output.

It also shows that increasing aggregate demand only invokes an inflationary response, rather than growth. This shows how supply side policies are extremely effective in regards to the monetarist model as an outward shift of LRAS would mean that there is great output at lower prices if it were to meet the same level of demand.

Keynesian model

Picture2

This model contains an element of the neo-classical model, but otherwise there are two significant differences. These differences are highlighted as this model can be separated into three different sections.

The first section is the horizontal line this is recognition that there are downward inflexible prices (sticky prices). This is because of factors such as labour contracts, unions, minimum wage, etc. At any point of alongside the horizontal line it is the recognition that some resources are not being employed and that there is production capacity which is not utilised.

Then there is the curve section which introduces the concept that there is still some response to price in the long run.  As the output increases so does the employment of resources, this causes prices to rise. To continue output firms must be able to continue increasing prices.

Finally there vertical section where there is the potential of full employment of resources. This is where prices can increase rapidly and GDP can’t increase as all aspects are being utilised.

Similar to the monetarist model, there can be an outward shift in long run aggregate supply. This is where the four main factors land, labour, capital, and enterprise are being utilised in a more efficient or productive manner. There may also be an introduction of new resources, which would cause the expansion. This particular model shows the benefits of using fiscal policy to stimulate aggregate demand as you achieve growth without an inflationary response.

An outward shift would mean an increase in productive potential, as the economy can utilise more resources in order to produce more. In this model however there are inflationary and deflationary gaps, as a result of the price sensitivity.

Equilibrium Keynesian model

Picture4

As shown in the diagram it can be noted that the economy can be at equilibrium at a variety of points where the economy is not at the point of full employment level of output. For AD1 it can be noted that there is not the full utilisation of resources.

Then the following point of AD2 it reaches the beginning of the section which is considered the deflationary gap. In this model the economy can stay at this gap. This is shown at the equilibrium with AD3. The economy can remain at this point because the model argues that without intervention the economy will not tend towards the point of full employment of output.

AD4 in contrast is presiding in the inflationary gap, where any increase in demand results in inflation rather than growth. At the turning point between the curve and the vertical line it can be considered the maximum potential output in the long run as it is the point that coincides with the greatest value of real output.

It is important to look at the point between AD1 and AD2 as this is the justification for the use of fiscal policy to increase aggregate demand. It can be seen that there is only an increase in real output between the two points, and not an inflationary response. This is because while shifting alongside this point the economy is simply using already existing spare capacity. The only point where there is a price increase is the deflationary and inflationary segments.

Evaluation

It is clear that there are strong arguments proposed for both models, the question to apply in the scenario is which one is more relevant to our current economic state. This however leads to a obvious split in decision making in regards to which model is followed, in brief terms Keynes’ model suggest that you must spend to save, whereas the monetarist model argues that there is the cyclical nature and any changes we make are artificial.

The main downfall of the monetarist model in regards to solving recessionary crisis or promoting growth is the extent to which it requires long-term planing. The Keynesian model creates a short-term effect as well as long-term which can make it seem more favorable for economic policy. However to apply the Keynesian model to today’s economic situation in Britain there is a curious result. In regards to aggregate demand there is expansionary monetary policy (low interest rates, increasing money supply i.e. QE) but there is an environment of deficit control which could be counteracting any effects on AD. But in regards to aggregate supply, in the current scenario I would support the Keynesian model as there is currently clear unfulfilled capacity.

 

Current State of The Blog

I apologize for the lack of content, the internet hiatus is now over as the summer begins and exams are over. I am looking forward to this point, as I will be releasing some hopefully useful revision material, but I am also going to take a more abstract view with considering how economics falls into place with everyday life.

There will finally be the fully fledged assembly of the economists and books section, which I have simply not had time to give. Once the Royal Economics Society Essay Prize deadline has passed, I will post my essay on here  and articles that were related with research.

China Rising – Aljazeera series

econfix

Here is a new four part series from Aljazeera. After centuries of western dominance, the world’s centre of economic and political weight is shifting eastward. In just 30 years, China has risen from long-standing poverty to being the second largest economy in the world – faster than any other country in history. Part four below entitled “Made in China” focuses on China’s economic role in the world is growing at a record pace, and it is also now a key player in world politics. The country has no doubt become a global manufacturing giant, but how will it deal with issues on the home front such as increase in pollution and water shortages? Although it has been confronted with tough environmental problems, efforts are being made to solve these. To view other episodes click the link – China Rising

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