Inequality, Redistribution and Health Care

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Inequality, Redistribution and Health Care

• Principles of Microeconomic Theory, ECO 284

• John Eastwood

• CBA 247, 523-7353

• e-mail address: John.Eastwood@nau.edu

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Learning Objectives

• Describe the inequality in income and wealth in the United States

• Explain why wealth inequality is greater than income inequality

• Explain how economic inequality arises

3

Learning Objectives (cont.)

• Explain the effects of taxes and social security and welfare programs on economic inequality

• Explain the effects of health-care reform on economic inequality

4

Learning Objectives

• Describe the inequality in income and wealth in the United States

• Explain why wealth inequality is greater than income inequality

• Explain how economic inequality arises

5

Economic Inequality in the United States

• Should we look at the distribution of income or wealth?

• Income is the amount that is received in a given period of time.• In 1995, the richest 20% of families received 49.4%

of total income

• The poorest richest 20% of families received 3.6% of total income

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Economic Inequality in the United States

• Should we look at the distribution of income or wealth?

• Wealth is the value of the things it owns at a point in time.• The wealthiest 1% of families owned 33% of total

wealth.

• The next 9% of families owned 33% of total wealth.

• The remaining 90% of families owned the rest.

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Economic Inequality in the United States

• Lorenz Curves

• A Lorenz curve graphs the cumulative percentage of income against the cumulative percentage of families.

8Lorenz Curves for Income and Wealth

Families Income WealthCumulative Cumulative Cumulative

Percentage Percentage Percentage Percentage Percentage Percentage

a Lowest 20 20 3.6 3.6 0 0

b Second 20 40 8.9 12.5 0 0

c Third 20 60 15.2 27.5 4 4

d Fourth 20 80 23.2 50.7 11 15

e Highest 20 100 49.4 100.0 85 100

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Cumulative % of families

40

20

40

60

80

Lorenz Curves for Income and Wealth

0 20 60 80 100

Cu

mul

ativ

e %

of

inco

me

& w

ealt

h 100

Line ofequality

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Cumulative % of families

40

20

40

60

80

Lorenz Curves for Income and Wealth

0 20 60 80 100

Cu

mul

ativ

e %

of

inco

me

& w

ealt

h 100

Line ofequality Income

Wealthb

c

d

e

a

12Trends in the Distribution of

Income: 1950–1995

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Economic Inequality in the United States

• Who Are the Rich and the Poor?

• The poorest household is likely to be:• a black woman

• over 65 years of age

• lives in the South

• has fewer than eight years of education

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Economic Inequality in the United States

• Who Are the Rich and the Poor?

• The wealthiest household is likely to be:• a college-educated white married couple

• between 45 and 54 years of age

• has two children

• lives in the West

15The Distribution of Income by

Selected Family Characteristics in 1994

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Economic Inequality in the United States

• Poverty

• Poverty is a state in which a family’s income is too low to be able to buy the quantities of food, shelter, and clothing that are deemed necessary.

• Poverty is a relative concept.

• The distribution of poverty by race is unequal.• 11% of white families

• 27.1% of Hispanic-origin families

• 26.5% of black families

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Poverty level by family size

Year 3 persons 6 persons9 or more persons

1980 $6,565 $11,269 $16,896

1990 $10,419 $17,839 $26,848

1997 $12,803 $21,880 $32,705

http://www.ssa.gov/statistics/Supplement/1998/Tables/PDF/t3e1.pdf

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Learning Objectives

• Describe the inequality in income and wealth in the United States

• Explain why wealth inequality is greater than income inequality

• Explain how economic inequality arises

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Comparing Like with Like

• How do we measure a person’s economic situation?

• Measure their income?

• Measure their wealth?

• Long period of time?

• Short period of time?

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Comparing Like with Like

• Wealth Versus Income

• Wealth is a stock of assets.

• Income is a flow of earnings that results from the stock of wealth.

• Wealth data measures tangible assets and exclude human capital.

• Income data measures income from both tangible assets and human capital.

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Capital, Wealth, and Income

Lee Peter

Wealth Income Wealth Income

Human Capital 200,000 10,000 499,000 24,950

Nonhuman Capital 800,000 40,000 1,000 50

Total $1,000,000 $50,000 $500,000 $25,000

Peter has exactly one-half of Lee’s wealth and income, but measured wealth excludes human capital. Thus Lee’s measured wealth is 800x Peter’s measured wealth.

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Comparing Like with Like

• Annual or Lifetime Income and Wealth?

• Incomes vary with age.

• Some inequality results from differences in peoples' stage of the life cycle

• Therefore, inequality of annual incomes overstates the degree of lifetime inequality.

• Measure lifetime income.

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Resource Prices, Endowment, and Choices

• Family income depends upon:

• Resource prices

• Resource endowments

• Choices

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Resource Prices, Endowment, and Choices

• Resource Prices

• Individuals with different skill levels earn different incomes.

• Resource Endowments

• Individuals have different family endowments in capital and human abilities.

• Distribution of income and wealth is non-normally distributed

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Income (thousands of dollars per year)

Per

cent

age

of h

ouse

hold

s

10

2

4

6

8

The Distribution of Income

20 30 40 50 600

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Resource Prices, Endowment, and Choices

• Choices

• Wages and the Supply of Labor• People who earn higher wage rates tend to work

more hours.

• Savings and Bequests

• Debts Cannot Be Bequeathed

• Assortative Mating

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Learning Objectives (cont.)

• Explain the effects of taxes and social security and welfare programs on economic inequality

• Explain the effects of health-care reform on economic inequality

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Income Taxes

• Income Taxes

• Regressive

• Proportional

• Progressive

• Equity & the ability to pay principle

• Horizontal equity - equal treatment of equals

• Vertical equity - unequal treatment of the unequal• those with greater ability pay more according to some

collectively chosen notion of fairness

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The Scale of Income Redistribution

• Market income is a family’s income in the absence of government redistribution.

• Redistribution reduces the inequality of incomes. See Figure 17.5, page 373.

• 1st quintile 3.6% to 13% after taxes & benefits

• 5th quintile 49.4% to 31% after taxes & benefits

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Cumulative % of families

40

20

40

60

80

Income Redistribution

0 20 60 80 100

Cu

mul

ativ

e %

of

inco

me

& w

ealt

h 100

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Income Redistribution

• The Big Tradeoff

• Income redistribution creates a big tradeoff• Uses scarce resources

• Weakens incentives

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Welfare Reform

• 1996 Personal Responsibility and Work Opportunities Reconciliation Act

• Eliminated AFDC—Created TANF

• AFDC• Anyone could receive benefits• A mother lost benefits if she worked

• TANF• Requires work or community service• Limited to 5 years during an individual’s lifetime

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Negative Income Tax

• Negative Income Tax gives every family a guaranteed minimum annual income and taxes all income above the guaranteed minimum at a fixed marginal rate.

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Market Income

Inco

me

afte

r re

dist

ribu

tion

G

Comparing Traditional Programs and a Negative Income Tax

0 A C

Current redistributionarrangements

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Market Income

Inco

me

afte

r re

dist

ribu

tion

G

Comparing Traditional Programs and a Negative Income Tax

0 A C

Taxes

Current programsand taxes

Welfaretrap

No redistribution

Benefits

Current redistributionarrangements

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Market Income

Inco

me

afte

r re

dist

ribu

tion

G

Comparing Traditional Programs and a Negative Income Tax

0 B

Current programsand taxes

No redistribution A negativeincome tax

Negativeincome tax

40

Market Income

Inco

me

afte

r re

dist

ribu

tion

G

Comparing Traditional Programs and a Negative Income Tax

0 B

Highertaxes

Current programsand taxes

Higherbenefits

No redistribution

Break-evenincome

A negativeincome tax

Negativeincome tax

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Table F-1. Income Limits for Each Fifth Families (All Races, current $):

http://www.census.gov/hhes/income/histinc/f01.html

Families Upper limit of each fifth (dollars)(000) Lowest Second Third Fourth

2000 72,383 $24,000 $41,000 $61,378 $91,700

1999 72,031 22,826 39,600 59,400 88,082

1998 71,551 21,600 37,692 56,020 83,693

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Table F-1 (continued) Income Limits for Top 5 Percent of Families (All Races, current $):

http://www.census.gov/hhes/income/histinc/f01.html

Lower limit of top five percent

2000 $160,250 1999 155,040 1998 145,199

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Median Net Worth and Distribution of Net Worth by Monthly Household Income Quintiles

http://www.census.gov/hhes/www/wealth/1995/wealth95.html

Upper limit Income ’95

($/mo.)

1995 Median net worth ($)

1993 Median net worth (’95 $)

Lowest quintile

$1,096 $5,000 $4,475

Second quintile

2,002 21,966 21,308

Third quintile 3,109 35,949 32,429 Fourth quintile

4,844 52,860 52,664

Highest quintile

Bill 116,232 125,337

Total 40,200 39,590

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Learning Objectives (cont.)

• Explain the effects of taxes and social security and welfare programs on economic inequality

• Explain the effects of health-care reform on economic inequality

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Health-Care Reform

• Two major problem areas:

• Health-care costs appear to be out of control.

• Private health-care insurance does not cover everyone.

50Who Pays for Health Care?

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Problems of Health-Care Costs

• Health-care costs have increased more rapidly than consumer prices due to:

• Limitations on labor-saving technological change

• Expensive technologies to treat medical conditions that were previously untreatable

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The Rising Cost of Health Care

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The Market for Health Care

0

P0

Q0

D0

S0 S1

D1

P1

Q1

Pri

ce o

f he

alth

car

e

Quantity of health care

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Health-Care Insurance

• Two Problems With Health-Care Insurance

• Moral Hazard• Insured people are less concerned with health risks.

• Adverse Selection• People who know they have a high chance of falling

ill are more likely to buy insurance.

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Moral Hazard

• “A situation in which one of the parties to an agreement has an incentive after the agreement is made to act in a manner that brings additional benefits to himself or herself at the expense of the other party.” Parkin’s definition

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Adverse Selection

• “The tendency for people to enter into agreements in which they can use their private information to their own advantage and to the disadvantage of the less-informed party.” Parkin’s definition

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Reform Proposals

A Bigger Role for Government?

Canada• The government is the sole provider of health care

services.

• It runs the hospitals, pays the doctors and other health care professionals, and buys drugs for people with low incomes.

• Private health care is illegal in Canada.

• Doctors ration procedures for which there is an excess demand by lengthening waiting periods.

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Reform Proposals

• A Bigger Role for Government?

• Clinton's proposal• Insurance companies could not reject anyone

• People would have freedom of choice of doctor and health plan

• Costs would be contained through competition and placing caps on insurance premium increases

• Everyone would have to contribute to covering the cost of health-care

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Reform Proposals

• Make the Private Health-Care Market Work Better?

• Republican's proposal• Scale back government funding• Reduce tax incentives that encourage employers to

buy medical insurance

• Any evidence? Since 1970• Real cost of Medicare & Medicaid up 4x• Real cost of private care up < 2x