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Chapter 20/Poverty, Inequality, and Discrimination
CHAPTER 20
POVERTY, INEQUALITY, AND DISCRIMINATION
Chapter 20 begins with a survey of the basic facts of poverty and income distribution in the
United States. It then turns to explanations of differences in incomes and policy measures to
CHAPTER OUTLINE
ISSUE: WERE THE BUSH TAX CUTS “UNFAIR”?
The Bush tax cuts were highly controversial.
THE FACTS: POVERTY
President Johnson declared a “War on Poverty” in 1964.
Counting the Poor: The Poverty Line
The dividing line between the poor and nonpoor is the poverty line.
Absolute versus Relative Poverty
There are both absolute and relative concepts of poverty.
An absolute concept of poverty says that if you fall short of a certain minimum standard of
living, you are poor; once you pass this standard, you are no longer poor.
THE FACTS: INEQUALITY
A market system such as the United States generates considerable inequality in the
distribution of personal incomes.
The poorest 20 percent of Americans earn only about 3.4 percent of personal incomes.
Since 1980, the distribution of income in the United States has grown substantially more
unequal.
Chapter 20/Poverty, Inequality, and Discrimination
SOME REASONS FOR UNEQUAL INCOMES
Among the reasons for differences in incomes are:
1. Differences in ability
2. Differences in intensity of work
3. Risk taking
THE FACTS: DISCRIMINATION
Women and nonwhites typically have lower earnings than white males.
Part, but only part, of the explanation for this is discrimination.
THE TRADE-OFF BETWEEN EQUALITY AND EFFICIENCY
People have different marginal utility schedules, so some inequality can probably be
justified.
However there is a formidable obstacle: The total amount of income in society is not
independent of how we try to distribute it.
The optimal income distribution always involves some inequality.
We should remember two important points:
1. There are better and worse ways to promote equality. In pursuing further income
equality (or fighting poverty), we should always seek policies that do the least
POLICIES TO COMBAT POVERTY
Education as a Way Out
Education is not an effective way to lift adults out of poverty. Its effects are delayed for a
generation or more.
The Welfare Debate and the Trade-Off
Antipoverty programs include education, public assistance programs such as Aid to Families
with Dependent Children, Temporary Assistance to Needy Families, food stamps, and
Chapter 20/Poverty, Inequality, and Discrimination
government provision of goods and services such as medical care and subsidized public
housing.
The Negative Income Tax
A negative income tax guarantees a minimum income through a government subsidy, then
cuts back the subsidy as earned income rises, until eventually a break-even income is attained
at which there is no further subsidy.
The operative formula is: guarantee = tax rate break-even level.
OTHER POLICIES TO COMBAT INEQUALITY
The Personal Income Tax
A progressive income tax can reduce inequalities in the society.
The current American income tax changes the distribution of income only modestly,
however.
Death Duties and Other Taxes
Taxes on inheritances and estates can reduce inequality, but they are too small in the United
States to have much effect.
POLICIES TO COMBAT DISCRIMINATION
Firms and other organizations with suspiciously small representations of minorities or
women in their workforces were required not just to end discriminatory practices but also to
demonstrate that they were taking affirmative action to remedy this imbalance.
Chapter 20/Poverty, Inequality, and Discrimination
A LOOK BACK
The market mechanism is extraordinarily good at promoting efficiency, but not very good at
promoting equality.
MARGIN DEFINITIONS
Poverty Line: an amount of income below which a family is considered “poor.”
Economic Discrimination: occurs when equivalent factors of production receive different
payments for equal contributions to output.
MAJOR IDEAS
1. Both poverty and inequality declined in the United States after World War II then rose in
the 1980s and 1990s.
2. Individual incomes differ for many reasons. Differences in native ability, in the desire to
work hard and to take risks, in schooling and experience, and in inherited wealth all
account for income disparities. Discrimination also plays a role. All of these factors,
however, explain only part of the inequality that we observe. A portion of the rest is due
simply to good or bad luck, and the balance is unexplained.
Chapter 20/Poverty, Inequality, and Discrimination
ON TEACHING THE CHAPTER
Chapter 20 can be related closely to the material in Chapters 18 and 19. The two previous
chapters discussed the principles governing the distribution of income to the factors of
production in a market system. Chapter 20 shows the consequences of that distribution, and then
goes on to consider whether and how public policy should change the distribution.
The issue of the trade-off between equality and efficiency is pervasive in this chapter, and
PROBLEMS
1. Consider some other possible negative income tax plans that Tinyland might adopt. Show
the negative income tax payments that will be made to each of the lower-income families,
and their resulting total income, if:
a) The guaranteed income is $3,000, and the tax rate is one-third.
b) The guaranteed income is $6,000, and the tax rate is one-third.
c) The guaranteed income is $6,000. The tax rate is 100 percent up to an earned income
of $3,000, and one-half thereafter.
Discuss briefly the advantages and disadvantages of each of the three plans.
Solution:
a)
Benefit
Earnings
Total
Paid Income
$0 $3,000 $3,000
1,000 2,667 3,667
2,000 2,333 4,333
Chapter 20/Poverty, Inequality, and Discrimination
b)
Benefit
Earnings
Total
Paid Income
$0 $6,000 $6,000
2,000 5,333 7,333
4,000 4,667 8,667
c)
Benefit
Earnings
Total
Paid Income
$0 $6,000 $6,000
1,000 5,000 6,000
2. To analyze the effects of discrimination in labor markets, use supply and demand curves
for labor, with the demand curves representing the value of the marginal product. In each
of the following cases, show the effects of discrimination on wage rates, and show
whether there are forces in the market that would tend to make the discriminators treat
people fairly:
a) Acme and United are two identical firms. Acme refuses to hire blacks, while United
treats all job applicants equally.
b) The workers in Firm A refuse to cooperate with a black supervisor, while the workers
in Firm B work cooperatively with any supervisor.
c) Blacks are denied access to higher education, and therefore come onto the job market
with low skill levels.
Chapter 20/Poverty, Inequality, and Discrimination
Solution:
a) Wage rate will be higher for Acme than they are for United. This cost advantage will
help United to gain the large share of the market; the forces of competition eventually
will drive the discriminating firm out of business.
b) If workers refuse to cooperate with a black supervisor, black supervisors will be less
effective and hence earn lower wages. Here prejudice does lead to discrimination.
c) Productivity of the labor without education would be very low so they would earn a
low wage rate than the labor with good education. If a firm hires labors with low skill
3. Suppose that marginal utility can be measured in absolute terms, or “utils.” Allen and
Elizabeth have identical marginal utility schedules. Up to $10,000 annual income, the
MU of a dollar is 10 utils; then up to $20,000, the MU of a dollar is 9 utils, and so forth
until between $100,000 and $110,000, the MU of a dollar is 1 util. Allen has an income of
$10,000 and Elizabeth has an income of $70,000.
a) What is Allen’s total utility, Elizabeth’s total utility, and the sum of the two?
Chapter 20/Poverty, Inequality, and Discrimination
b) What distribution of the $80,000 total income would maximize the sum of their
utilities?
c) Comparing b) to a), what is the change in Allen’s utility, Elizabeth’s utility, and total
utility?
d) Your solution in b) maximized the community’s utility for a given total income. Is
there any reason to think that the community’s income would change if this solution
were adopted?
e) If the solution in b) were adopted, one person would gain and the other would lose.
Discuss the question of whether this solution is “fair.”
f) Suppose now that there is no absolute utility standard, or “util,” and that utility cannot
be compared between different people. How does your analysis of this problem
change?
Solution:
a) 100,000 utils, 490,000 utils, 590,000 utils, respectively.
DISCUSSION QUESTIONS
1. Explain why a trade-off between equality and efficiency does or does not arise in
consideration of the following policies:
a) The government guarantees each American family an annual income of $20,000.
b) Firms that make investments in their plant can deduct one-half of the cost of the
investment from their tax bill.
c) The government expands the unemployment insurance program, so that it covers 95
percent of a former worker’s earnings, and lasts for as long as the person is
unemployed.
d) The government doubles its expenditures on vocational training programs for high
school dropouts.
Suggested Answer:
a) Because of its superior work incentives, economists believe that a negative income
tax is a more efficient way to redistribute income than the existing multifaceted
Chapter 20/Poverty, Inequality, and Discrimination
2. Do you believe that people who qualify for welfare assistance and who are able to work
should be required to work as a condition of receiving assistance? Why or why not?
Suggested Answer: Most students might agree with this argument. Students could discuss
3. Do you think there is a public interest in promoting affirmative action programs, which
require preference to be given in university admissions and hiring to members of groups
that have previously been denied access to higher education and to some jobs?
Suggested Answer: Points of discussion should include divergent views on affirmative
action. Critics claim that affirmative action amounts to numerical quotas and compulsory
4. What single change in government policy do you think would be most helpful in reducing
poverty in the United States?
Suggested Answer: Student responses to this question will vary. Each response should be
