Economic Inequality Definition

Key Takeaways

  • Economic inequality means the disparity in wealth distribution and opportunities among people belonging to various groups, communities, or countries. It is increasing trend displays differences in assets or income between the society’s wealthiest and the poorest segments. The types of economic inequality are income inequality, wealth inequality, and pay inequality. One can measure economic inequality using the Palma ratio and Gini coefficient.Often, higher inequality results in a debt burden. Social problems and health are worse in countries with higher economic inequality.

Types of Economic Inequality

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Although various characteristics can drive a person’s economic position, income, pay, and wealthWealthWealth refers to the overall value of assets, including tangible, intangible, and financial, accumulated by an individual, business, organization, or nation.read more are considered the most relevant factors that encapsulate a person’s financial position within society.

  • Income Inequality – Income inequality refers to the extent of income disparity among the people in a group. In this case, income does not just include money received from employment. Rather, all the income earned in wages, salaries, return on investments, interest on deposits, dividendsDividendsDividends refer to the portion of business earnings paid to the shareholders as gratitude for investing in the company’s equity.read more from equityEquityEquity refers to investor’s ownership of a company representing the amount they would receive after liquidating assets and paying off the liabilities and debts. It is the difference between the assets and liabilities shown on a company’s balance sheet.read more, rent, etc.Pay Inequality – Pay inequality is slightly different from income inequality as pay includes the payment received from employment, which can be hourly, weekly, monthly, or annual. The compensation, in this case, may also comprise bonuses.Wealth Inequality – Wealth inequality indicates a disparity in total assetsTotal AssetsTotal Assets is the sum of a company’s current and noncurrent assets. Total assets also equals to the sum of total liabilities and total shareholder funds. Total Assets = Liabilities + Shareholder Equityread more owned by an individual or household. These assets also include financial assetsFinancial AssetsFinancial assets are investment assets whose value derives from a contractual claim on what they represent. These are liquid assets because the economic resources or ownership can be converted into a valuable asset such as cash.read more, private pension rights, and property.

How is Economic Inequality Measured?

It is measured using the following: –

  • Gini Coefficient – The Gini coefficientGini CoefficientGini Coefficient or Gini Index is statistical dispersion depicting the income dispersions amongst the population of a country i.e. it represents the wealth inequalities of the citizens of a particular country. read more helps determine the inequality across the entire society, not just among some specific income groups. Gini coefficient of 1 indicates maximum imbalance, which means that all the income went to a single person and no one else got anything. In contrast, the Gini coefficient of 0 indicates minimum inequality, which means that society’s revenueRevenueRevenue is the amount of money that a business can earn in its normal course of business by selling its goods and services. In the case of the federal government, it refers to the total amount of income generated from taxes, which remains unfiltered from any deductions.read more is equally shared. The lower the Gini coefficient, the lower the disparity.Palma Ratio – The Palma ratio is a ratio measure that compares the share of income of the top 10% of the society to that of the bottom 40% of the community. In societies with lower inequality, this ratio is less than 1, which means that the top 10% of that society does not earn more than the bottom 40%. On the other hand, in communities with high inequality, the Palma ratio can go as high as 7. Therefore, the lower the Palma ratio, the lower the disparity.

Examples of Economic Inequality

Below are some examples  –

Example #1

Let us take the example of the Gini coefficient of three nations (Australia, Costa Rica, and Israel) for 2018. Comment on the economic inequality of the nations based on the Gini coefficient.

Source – data.oecd.org

The above table shows that economic inequality is moderate in Australia and Costa Rica (Gini coefficient close to 0.3). Simultaneously, it is relatively worse for Israel, with a Gini coefficient of close to 0.5.

Example #2

Let us take the example of the Palma ratio of the same three nations for 2018. Comment on the economic inequality of the nations based on the Palma ratio.

The above table suggests moderate economic inequality in Australia and Israel (the Palma ratio is slightly above 1.0). At the same time, it is relatively worse in Costa Rica, with the Palma ratio close to 3.0.

Causes of Economic Inequality

  • The wage in a free marketFree MarketA free market refers to an economic system free from government interventions and controlled by privately owned businesses.read more is a function of the demand for the skills required for a job. Therefore, the difference in skill levels results in a disparity in wages.The difference in education ranks also influences the ability to earn.Growing technology has eradicated rudimentary jobs, which require a basic skill set, resulting in joblessness.

Effects

  • Health and social problems are worse in countries with higher economic inequality.Social indicators like educational performance, life expectancy, and trust among the population are low in countries with higher economic inequality.Higher inequality often results in a growing debtDebtDebt is the practice of borrowing a tangible item, primarily money by an individual, business, or government, from another person, financial institution, or state.read more burden.Some studies suggest that high economic inequality impacts growth in the long term.Societies with high inequality suffer from higher crime rates and an unstable political environment.

Benefits

  • Experts believe that rising levels of inequality can drive economic growthEconomic GrowthEconomic growth refers to an increase in the aggregated production and market value of economic commodities and services in an economy over a specific period.read more in the short term.In some cases, higher economic inequality paves the way for fairer wealth distribution.

This article has been a guide to Economic Inequality definition. Here, we discussed economic inequality causes, effects, types, and how to measure it with examples, benefits, and disadvantages. You can learn more about financial analysis from the following articles: –

The income gap, gender inequality, social class, and health care are examples of economic inequality.

Economic inequality may harm society in the form of lower long-term GDP growth, inferior public health, high crime rates, lower average levels of education, and high political inequality.

One can reduce economic inequality through income support and transfers, i.e., government programs such as free health care, wealth, and food stamps among different policy types, and tax relief.

According to experts, economic inequality bothers economic growth and promotes political dysfunction. Concentrated income and wealth may lower the demand level in the economic system because affluent sections of society are bound to spend less than the poor. Moreover, decreased opportunities for low-income people also harm the economic system.

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