module 78 Income Inequality and Income Distribution 771
taxes and transfers. The effect of government programs was to increase the share of in-
come going to the poorest 60% of the population, especially the share going to the
poorest 20%, while reducing the share of income going to the richest 20%.
The Debate Over Income Redistribution
The goals of income redistribution seem laudable: to help the poor, protect everyone
from financial risk, and ensure that people can afford essential health care. But good
intentions don’t always make for good policy. There is an intense debate about how
large the antipoverty programs should be, a debate that partly reflects differences in
philosophy but also reflects concern about the possibly counterproductive effects of
antipoverty programs. Disputes about the role of government in income redistribution
are also one of the defining issues of modern politics.
Problems with Income Redistribution
There are two different lines of argument against antipoverty programs. One is based
on philosophical concerns about the proper role of government. Some political theo-
rists believe that redistributing income is not a legitimate role of government—that
government’s role should be limited to maintaining the rule of law, providing public
goods, and managing externalities.
The more conventional argument against income redistribution involves the trade-
off between efficiency and equity. A government with extensive antipoverty programs
requires more revenue, and thus higher marginal tax rates, than one that limits itself
mainly to the provision of public goods such as national defense. Table 78.6 shows “so-
cial expenditure,” a measure that roughly corresponds to welfare state spending, as a
percentage of GDP in the United States, Britain, and France; it also compares this with
an estimate of the marginal tax rate faced by an average wage-earner, including payroll
taxes paid by employers and state and local taxes. As you can see, France’s large welfare
state goes along with a high marginal rate of taxation. Some, but not all, economists
believe that this high rate of taxation is a major reason the French work substantially
fewer hours per year than Americans.
Social Expenditure and Marginal Tax Rates
Social expenditure in Marginal tax rate
2005 (% of GDP) in 2008
US 16.3% 34.4%
UK 22.1 38.8
France 29.5 52.0
Sources:OECD Social Expenditure Database; OECD Taxing Wages Database.table78.6
The trade-off between antipoverty programs and high marginal tax rates seems to
suggest that we should try to hold down the cost of these programs. One way to do this
is to means-test benefits: make them available only to those who need them. But
means-testing, it turns out, creates a different kind of trade-off between equity and ef-
ficiency. Consider the following example: Suppose there is some means-tested benefit,
worth $2,000 per year that is available only to families with incomes of less than
$20,000 per year. Now suppose that a family currently has an income of $19,500 but
that one family member is deciding whether to take a new job that will raise the fam-
ily’s income to $20,500. Well, taking that job will actually make the family worse off be-
cause it will gain $1,000 in earnings but lose the $2,000 government benefit.
Section 14 Market Failure and the Role of Government