To measure inequality, we need to decide on our measurement yardstick. That is, whose standard of living are we measuring and how are we going to measure it and update it over time? The various summary statistics are helpful if the measure is well defined. To truly understand inequality measurement, the following questions should be answered.
What: Which resource measure will be used?
Who: Whose income is being measured?
When: What time period is used, and which inflation measure?
Where: How do we adjust for differences by geographic location?
Why: What is the purpose of these measures?
How: Which summary statistics?
Since one of the first National Bureau of Economic Research meetings of the Conference on Research in Income and Wealth (1943), researchers have discussed the many choices that need to be made in determining the appropriate components of income to include in a measure of income distribution.4 There are a multitude of income measures used by researchers and the government in examining inequality.
When: Choosing a time period and adjusting income over time
In order to create trends in income and the distribution of income, one must choose a reference period, time period, and methods to adjust for changes in the cost of living that occur during the time period. Most studies use annual measures of income. Monthly or quarterly measures of income are more likely to be volatile. Alternatively, if the goal is to measure permanent income or consumption, which requires more stability, averaging over longer periods (years) may be more appropriate. The time period chosen significantly affects the results.
Where: How are the measures adjusted for differences in geographic
location?
Similar to the adjustment for family size, it could be that some areas in the country (or even different countries) have different living costs. BEA has constructed a regional price parity index to adjust PI and show that the range across countries narrows; that is, inequality is lower across the country than when using unadjusted income. Moretti (2013) and Deaton (2010) discuss other implications of using geographically adjusted income in
comparing wages across the United States and income internationally. Especially in making international comparisons, the Canberra Group report (2011) suggests using price index adjustments. At this point, the BEA prototype estimates are only produced at the national level and do not adjust for differences in the geographic price differences.
How: Which summary statistic and data set?
Much research focuses on the levels and trends in the Gini coefficient to evaluate inequality, but Atkinson (1970), Sen (1997), and Theil (1967) evaluate a variety of inequality measures and their properties. The Gini coefficient is a common summary measure of the amount of inequality (or disparity) in income (or any resource).
Why: The purpose of the measure
Each of the choices—what, who, where, when, why, and how—has different implications for the levels and trends of inequality. As a result, researchers need to decide on the purpose of their evaluation when making these choices, whether it is to answer questions about overall changes in inequality, the redistributive impacts of government taxes and transfers, or the differences between annual and permanent income. Each of these questions may require different data and inequality measures. The CBO purpose is to examine the impact of
taxes on the distribution of income, and hence, choose the appropriate income measure that includes capital gains. Other research tries to obtain a better measure of economic well-being and adjusts income to account for disposable or discretionary income.
c/c; Dennis Fixler, U.S. Bureau of Economic Analysis,
Marina Gindelsky, U.S. Bureau of Economic Analysis, and
David Johnson, University of Michigan
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