The Federal Reserve determines median family wealth, average family wealth, and the distribution of wealth in the United States through the Survey of Con-
sumer Finances that it conducts every three years. Median family wealth is the wealth received by the family at the midpoint of the distribution; average family wealth is simply total wealth di- vided by the number of families.
As shown in Table 1, median and average family wealth, ad- justed for inflation, was consid- erably higher in 2007 than in 1995. That is, the value of fam- ily assets rose more rapidly than
the value of liabilities, increasing net worth—or wealth. Between 1995 and 2007, median and average wealth rose by 54 percent and 95 percent, respectively. In general, American families are wealthier than they were before.
Table 2 looks at the distribution of family wealth for various percentile groups and reveals that the distribution of wealth is highly unequal. In 2007 the wealthiest 10 percent of families owned almost 72 percent of the total wealth and the top 1 per- cent owned about 34 percent. The bottom 90 percent held only about 29 percent of the total wealth.
Moreover, the general trend is toward greater inequality of wealth. The lowest 90 percent of the families owned about 32 percent of total U.S. wealth in 1995, but that percentage fell to about 29 percent in 2007.
So from a normative standpoint, Tables 1 and 2 present a
“mixed-news” combination. The welcome news is that median and average wealth in the United States rose substantially be- tween 1995 and 2007. The discouraging news is that such wealth grew less rapidly for the typical American family than for the top 10 percent of American families over the entire period.
Tables 1 and 2 raise many interesting questions: Will the inequality of wealth continue to grow in the future? If so, what are the implications for the fu- ture character of American soci- ety? Should government do more, or less, in the future to try to redistribute wealth?
Would new government poli- cies to redistribute wealth en- danger or slow the creation of wealth and the growth of income for average Americans? The Federal estate tax was phased out in 2010 but is scheduled to re- turn to a very high level in 2011. Should the phase-out be made permanent or replaced with a new estate tax at a lower rate?
Sources: Brian K. Bucks, Arthur B. Kennickell, Traci L. Mach, and Kevin B. Moore, “Changes in U.S. Family Finances from 2004 to 2007:
Evidence from the Survey of Consumer Finances,” Federal Reserve Bulletin, vol. 95 (February 2009); Arthur B. Kennickell, “Ponds and Streams: Wealth and Income in the U.S., 1989 to 2007,” Survey of Consumer Finances working paper, January 2009, p. 35.
In 2009 the Federal Reserve Reported Its Latest Findings on Family Wealth (5 Net Worth 5 Assets Minus Liabilities) in the United States. Between 1995 and 2007, Family Wealth Rose Rapidly and Became More Unequal.
LAST Word
Year Median Average*
1995 $ 78,200 $286,700
1998 91,300 360,100
2001 101,300 464,800
2004 102,300 493,500
2007 120,600 557,800
TABLE 1 Median and Average Family Wealth, Survey Years 1995–2007 (in 2007 Dollars)
*The averages greatly exceed the medians because the averages are boosted by the multibillion-dollar wealth of a relatively few families.
Percentage of Total Wealth by Group Year Bottom 90% Top 10% Top 1%
1995 32.2% 67.8% 34.6%
1998 31.4 68.6 33.9
2001 30.2 69.8 32.7
2004 30.4 69.5 33.4
2007 28.5 71.5 33.8
TABLE 2 Percentage of Total Family Wealth Held by Different Groups, Survey Years 1995–2007
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CHAPTER 20 Income Inequality, Poverty, and Discrimination 429
• Discrimination occurs when workers who have the same abilities, education, training, and experience as other work- ers receive inferior treatment with respect to hiring, occu- pational access, promotion, or wages.
• The taste-for-discrimination model sees discrimination as representing a preference or “taste” for which the discrimi- nator is willing to pay.
• The theory of statistical discrimination says that employers often wrongly judge individuals on the basis of average group characteristics rather than on personal characteris- tics, thus harming those discriminated against.
• The crowding model of discrimination suggests that when women and minorities are systematically excluded from high- paying occupations and crowded into low-paying ones, their wages and society’s domestic output are reduced.
QUICK REVIEW 20.3
domestic output (their MRP) is low, to higher-paying occu- pations X and Y, where their contribution to domestic out- put is high. Thus society gains a more efficient allocation of resources from the removal of occupational discrimination.
Example: The easing of occupational barriers has led to a surge of women gaining advanced degrees in some high-paying professions. In recent years, for instance, the percentage of law degrees and medical degrees awarded to women has exceeded 40 percent, compared with less than 10 percent in 1970.
Cost to Society as Well as to Individuals
It is obvious from all three models of discrimination that discrimination by characteristics such as race, eth- nicity, gender, or age imposes costs on those who are d iscriminated against. They have lower wages, less access to jobs, or both. Preferred workers in turn benefit from discrimination through less job competition, greater job access, and higher wages. But discrimination does more than simply transfer earnings from some people to others, thus contributing to income inequality and increasing poverty. Where it exists, discrimination also diminishes the economy’s total output and income.
In that regard, discrimination acts much like any other artificial barrier to free competition. By arbitrarily blocking qualified individuals from high-productivity (and thus high-wage) jobs, discrimination keeps those discriminated against from providing their maximum contribution to society’s total output and total income.
In terms of production possibilities analysis, discrimina- tion locates society inside the production possibilities curve that would be available to it if there were no discrimination.
Discrimination redistributes a diminished amount of total income.
Summary
1. The distribution of income in the United States reflects considerable inequality. The richest 20 percent of house- holds receive 50.0 percent of total income, while the poorest 20 percent receive 3.4 percent.
2. The Lorenz curve shows the percentage of total income re- ceived by each percentage of households. The extent of the gap between the Lorenz curve and a line of total equality illustrates the degree of income inequality.
3. The Gini ratio measures the overall dispersion of the income distribution and is found by dividing the area between the diagonal and the Lorenz curve by the entire area below the diagonal. The Gini ratio ranges from zero to 1, with higher ratios signifying greater degrees of income inequality.
4. Recognizing that the positions of individual families in the distribution of income change over time and incorporating the effects of noncash transfers and taxes would reveal less income inequality than do standard census data. Govern- ment transfers (cash and noncash) greatly lessen the degree
of income inequality; taxes also reduce inequality, but not nearly as much as transfers.
5. Causes of income inequality include differences in abilities, in education and training, and in job tastes, along with dis- crimination, inequality in the distribution of wealth, and an unequal distribution of market power.
6. Census data show that income inequality has increased since 1970. The major cause of the recent increases in income in- equality is a rising demand for highly skilled workers, which has boosted their earnings significantly.
7. The basic argument for income equality is that it maximizes consumer satisfaction (total utility) from a particular level of total income. The main argument for income inequality is that it provides the incentives to work, invest, and assume risk and is necessary for the production of output, which, in turn, creates income that is then available for distribution.
8. Current statistics reveal that 13.2 percent of the U.S. popu- lation lives in poverty. Poverty rates are particularly high for
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PART SIX
Microeconomic Issues and Policies 430
Terms and Concepts
income inequality Lorenz curve Gini ratio income mobility noncash transfers
equality-efficiency trade-off poverty rate
entitlement programs social insurance programs
Social Security Medicare
unemployment compensation public assistance programs
Supplemental Security Income (SSI) Temporary Assistance for Needy
Families (TANF)
Supplemental Nutrition Assistance Program (SNAP)
Medicaid
earned-income tax credit (EITC) discrimination
taste for discrimination model discrimination coefficient statistical discrimination occupational segregation
1. Use quintiles to briefly summarize the degree of income in- equality in the United States. How and to what extent does government reduce income inequality? LO1
2. Assume that Al, Beth, Carol, David, and Ed receive incomes of $500, $250, $125, $75, and $50, respectively. Construct and interpret a Lorenz curve for this five-person economy.
What percentage of total income is received by the richest quintile and by the poorest quintile? LO1
3. How does the Gini ratio relate to the Lorenz curve? Why can’t the Gini ratio exceed 1? What is implied about the di- rection of income inequality if the Gini ratio declines from 0.42 to 0.35? How would one show that change of inequal- ity in the Lorenz diagram? LO1
4. Why is the lifetime distribution of income more equal than the distribution in any specific year? LO1
5. Briefly discuss the major causes of income inequality. With respect to income inequality, is there any difference between inheriting property and inheriting a high IQ? Explain. LO2
6. What factors have contributed to increased income inequal- ity since 1970? LO3
7. Should a nation’s income be distributed to its members ac- cording to their contributions to the production of that to- tal income or according to the members’ needs? Should society attempt to equalize income or economic opportuni- ties? Are the issues of equity and equality in the distribution of income synonymous? To what degree, if any, is income inequality equitable? LO4
8. Do you agree or disagree? Explain your reasoning. “There need be no trade-off between equality and efficiency. An ‘ef- ficient’ economy that yields an income distribution that many regard as unfair may cause those with meager incomes to become discouraged and stop trying. So efficiency may be undermined. A fairer distribution of rewards may gener- ate a higher average productive effort on the part of the population, thereby enhancing efficiency. If people think they are playing a fair economic game and this belief causes
Questions
female-headed families, young children, African Americans, and Hispanics.
9. The present income-maintenance program in the United States consists of social insurance programs (Social Security, Medicare, and unemployment compensation) and public as- sistance programs (SSI, TANF, food stamps, Medicaid, and the earned-income tax credit).
10. Discrimination relating to the labor market occurs when women or minorities having the same abilities, education, training, and experience as men or white workers are given inferior treatment with respect to hiring, occupational choice, education and training, promotion, and wage rates.
Discrimination redistributes national income and, by creat- ing inefficiencies, diminishes its size.
11. In the taste-for-discrimination model, some white employ- ers have a preference for discrimination, measured by a dis- crimination coefficient d . Prejudiced white employers will
hire African-American workers only if their wages are at least d dollars below those of whites. The model indicates that declines in the discrimination coefficients of white employers will increase the demand for African-American workers, raising the African-American wage rate and the ratio of African-American wages to white wages. It also suggests that competition may eliminate discrimination in the long run.
12. Statistical discrimination occurs when employers base em- ployment decisions about individuals on the average charac- teristics of groups of workers. That can lead to discrimination against individuals even in the absence of prejudice.
13. The crowding model of occupational segregation indicates how white males gain higher earnings at the expense of women and certain minorities who are confined to a limited number of occupations. The model shows that discrimina- tion also causes a net loss of domestic output.
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CHAPTER 20 Income Inequality, Poverty, and Discrimination 431 questions that follow. Base your answers on the taste-for- discrimination model. LO7
a. Plot the labor demand and supply curves for Hispanic workers in this occupation.
b. What are the equilibrium Hispanic wage rate and quan- tity of Hispanic employment?
c. Suppose the white wage rate in this occupation is $16.
What is the Hispanic-to-white wage ratio?
d. Suppose a particular employer has a discrimination coef- ficient d of $5 per hour. Will that employer hire Hispanic or white workers at the Hispanic-white wage ratio indi- cated in part c ? Explain.
e. Suppose employers as a group become less prejudiced against Hispanics and demand 14 more units of Hispanic labor at each Hispanic wage rate in the table. What are the new equilibrium Hispanic wage rate and level of His- panic employment? Does the Hispanic-white wage ratio rise or fall? Explain.
f. Suppose Hispanics as a group increase their labor ser- vices in that occupation, collectively offering 14 more units of labor at each Hispanic wage rate. Disregarding the changes indicated in part e , what are the new equi- librium Hispanic wage rate and level of Hispanic em- ployment? Does the Hispanic-white wage ratio rise, or does it fall?
13. Males under the age of 25 must pay far higher auto insur- ance premiums than females in this age group. How does this fact relate to statistical discrimination? Statistical dis- crimination implies that discrimination can persist indefi- nitely, while the taste-for-discrimination model suggests that competition might reduce discrimination in the long run. Explain the difference. LO7
14. Use a demand-and-supply model to explain the impact of occupational segregation or “crowding” on the relative wage rates and earnings of men and women. Who gains and who loses from the elimination of occupational segregation? Is there a net gain or a net loss to society? Explain. LO7 15. LASTWORD Go to Table 1 in the Last Word and compute
the ratio of average wealth to median wealth for each of the 5 years. What trend do you find? What is your explanation for the trend? The Federal estate tax redistributes wealth in two ways: by encouraging charitable giving, which reduces the taxable estate, and by heavily taxing extraordinarily large estates and using the proceeds to fund government pro- grams. Do you favor repealing the estate tax? Explain.
them to try harder, an economy with an equitable income distribution may be efficient as well.” 6 LO4
9. Comment on or explain: LO4
a. Endowing everyone with equal income will make for very unequal enjoyment and satisfaction.
b. Equality is a “superior good”; the richer we become, the more of it we can afford.
c. The mob goes in search of bread, and the means it em- ploys is generally to wreck the bakeries.
d. Some freedoms may be more important in the long run than freedom from want on the part of every individual.
e. Capitalism and democracy are really a most improbable mixture. Maybe that is why they need each other—to put some rationality into equality and some humanity into efficiency.
f. The incentives created by the attempt to bring about a more equal distribution of income are in conflict with the incentives needed to generate increased income.
10. How do government statisticians determine the poverty rate? How could the poverty rate fall while the number of people in poverty rises? Which group in each of the follow- ing pairs has the higher poverty rate: ( a ) children or people age 65 or over? ( b ) African Americans or foreign-born non- citizens? ( c ) Asians or Hispanics? LO5
11. What are the essential differences between social insurance and public assistance programs? Why is Medicare a social insurance program, whereas Medicaid is a public assistance program? Why is the earned-income tax credit considered to be a public assistance program? LO6
12. The labor demand and supply data in the following table relate to a single occupation. Use them to answer the
Quantity of Quantity of Hispanic Labor Hispanic Hispanic Labor Demanded, Wage Supplied,
Thousands Rate Thousands 24 $16 52
30 14 44
35 12 35
42 10 28
48 8 20
6Paraphrased from Andrew Schotter, Free Market Economics (New York:
St. Martin’s Press, 1985), pp. 30–31.
Problems
1. In 2010 Forbes magazine listed Bill Gates, the founder of Microsoft, as the richest person in the United States. His personal wealth was estimated to be $53 billion. Given that there were about 309 million people living in the United States that year, how much could each person have received if Gates’ wealth had been divided equally among the popu-
lation of the United States? (Hint: A billion is a 1 followed by 9 zeros while a million is a 1 followed by six zeros.) LO1 2. Imagine an economy with only two people. Larry earns
$20,000 per year, while Roger earns $80,000 per year. As shown in the following figure, the Lorenz curve for this two-person economy consists of two line segments. The
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PART SIX
Microeconomic Issues and Policies 432
b. Assume that there are 20 minimum-wage workers in the economy for each $100-per-hour lawyer. Also assume that both lawyers and minimum-wage workers work the same number of hours per week. If everyone works 40 hours per week, how much does a $100-per-hour lawyer earn a week?
How much does a minimum-wage worker earn a week?
c. Suppose that the government pairs each $100-per-hour lawyer with 20 nearby minimum-wage workers. If the government taxes 25 percent of each lawyer’s income each week and distributes it equally among the 20 minimum- wage workers with whom each lawyer is paired, how much will each of those minimum-wage workers receive each week? If we divide by the number of hours worked each week, how much does each minimum-wage worker’s weekly transfer amount to on an hourly basis?
d. What if instead the government taxed each lawyer 100 percent before dividing the money equally among the 20 minimum-wage workers with whom each lawyer is paired—how much per week will each minimum-wage worker receive? And how much is that on an hourly basis?
4. The desire to maximize profits can work against racial and other types of discrimination. To see this, consider two equally productive accountants named Ted and Jared. Ted is black, and Jared is white. Both can complete 10 audits per month. LO7 a. Suppose that for any accounting firm that hires either
Ted or Jared, all the other costs of performing an audit (besides paying either Ted or Jared) come to $1000 per audit. If the going rate that must be paid to hire an ac- countant is $7000 per month, how much will it cost an accounting firm to produce one audit if it hires either Ted or Jared to do the work?
b. If the market price that accounting firms charge their cli- ents for an audit is $1800, what would the accounting profit per audit be for a firm that hired either Ted or Jared? What is the profit rate as a percentage?
c. Suppose that firm A dislikes hiring black accountants, while firm B is happy to hire them. So Ted ends up work- ing at firm B rather than firm A . If Ted works 11 months per year, how many audits will he complete for firm B each year? How much in accounting profits will firm B earn each year from those audits?
d. Because firm A passed on hiring Ted because he was black, firm A is forgoing the profits it could have earned if it had hired Ted. If the firm is willing to forgo up to $5,000 per year in profit to avoid hiring blacks, by how many dollars will firm A regret its decision not to hire Ted?
first runs from the origin to point a , while the second runs from point a to point b . LO1
100
80
60
40
20
0 20 40 60 80 100
Percentage of income
Percentage of population
b
a Lorenz curve for Larry and Roger
Perfect equality A
a. Calculate the Gini ratio for this two-person economy using the geometric formulas for the area of a triangle (5 ẵ 3 base 3 height) and the area of a rectangle (5 base 3 height). (Hint: The area under the line segment from point a to point b can be thought of as the sum of the area of a particular triangle and the area of a particular rectangle.) b. What would the Gini ratio be if the government taxed
$20,000 away from Roger and gave it to Larry? (Hint:
The figure will change.)
c. Start again with Larry earning $20,000 per year and Roger earning $80,000 per year. What would the Gini ratio be if both their incomes doubled? How much has the Gini ratio changed from before the doubling in incomes to after the doubling in incomes?
3. In 2010, many unskilled workers in the United States earned the Federal minimum wage of $7.25 per hour. By contrast, average earnings in 2010 were about $22 per hour, and cer- tain highly skilled professionals, such as doctors and law- yers, earned $100 or more per hour. LO6
a. If we assume that wage differences are caused solely by differences in productivity, how many times more pro- ductive was the average worker than a worker being paid the Federal minimum wage? How many times more pro- ductive was a $100-per-hour lawyer compared to a worker earning minimum wage?
FURTHER TEST YOUR KNOWLEDGE AT www.mcconnell19e.com
At the text’s Online Learning Center (OLC), www.mcconnell19e.com, you will find one or more Web-based questions that require information from the Internet to answer. We urge you to check them out; they will familiarize you with Web sites that may be helpful in other courses and perhaps
even in your career. The OLC also features multiple-choice questions that give instant feedback and provides other helpful ways to further test your knowledge of the chapter.
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