What is the relationship between economic growth and income distribution?

Relationship between economic growth and income distribution

Income distribution has always been a central concern of economic theory and economic policy. Classical economists such as Adam Smith, Thomas Malthus and David Ricardo were mainly concerned with factor income distribution, that is, the distribution of income between the main factors of production, land, labour and capital.

Modern economists have also addressed this issue, but have been more concerned with the distribution of income across individuals and households. Important theoretical and policy concerns include the relationship between income inequality and economic growth. The article economic inequality discusses the social and policy aspects of income.

In the economic literature on inequality four properties are generally postulated that any measure of inequality should satisfy:

This assumption states that an inequality metric does not depend on the “labeling” of individuals in an economy and all that matters is the distribution of income. For example, in an economy composed of two people, Mr. Smith and Mrs. Jones, where one of them has 60% of the income and the other 40%, the inequality metric should be the same whether it is Mr. Smith or Mrs.Jones who has the 40% share.

This property distinguishes the concept of inequality from that of fairness where who owns a particular level of income and how it has been acquired is of central importance. An inequality metric is a statement simply about how income is distributed, not about who the particular people in the economy are or what kind of income they “deserve”.

This property says that richer economies should not be automatically considered more unequal by construction. In other words, if every person’s income in an economy is doubled (or multiplied by any positive constant) then the overall metric of inequality should not change.

Of course, the same thing applies to poorer economies. The inequality income metric should be independent of the aggregate level of income.

Similarly, the income inequality metric should not depend on whether an economy has a large or small population. An economy with only a few people should not be automatically judged by the metric as being more equal than a large economy with lots of people.

This means that the metric should be independent of the level of population. Pigou-Dalton, or the transfer principle-this is the assumption that makes an inequality metric actually a measure of inequality.

In its weak form it says that if some income is transferred from a rich person to a poor person, while still preserving the order of income ranks, then the measured inequality should not increase. In its strong form, the measured level of inequality should decrease.