Impact of Economic Growth on Income Inequalities

Research Paper (postgraduate) 2011 17 Pages

Business economics - Economic Policy



In economics, income is regarded as the reward for the participation in the economic activities. The distribution of income is therefore meant for the extent of contribution of a person or groups in the economy (Viner, J. 1953) and assumed to be a sign of level of social and economic welfare of the masses in any region. If there is an equal distribution of income and wealth, then society will be more affluent and prosperous and vice-versa (Kuznets, S., 1955). Keeping in view of these things India has started the process of economic planning in 1950. The broad objectives of the plans have mainly two aspects, that are economic and social and in its economic aspect, planning seeks higher rate of growth, greater balance between industry and agriculture, better harnessing of natural and human resources and employment opportunities at a reasonable level of income for the entire labour force on the one hand, and social planning has broader goals like creation of conducive environment of equal opportunity for each and every citizen for equal distribution of income and wealth for a better life of the people on the other (Ojha, P.D., 1985).

The Planning Commission (PC) was working with a view that the income of economy must increase before it would be utilized for solving other problems like poverty etc. The perception was that after registering a substantial growth rate in the economy, emphasis would be given on its distribution. To understand, therefore, the impact and responsiveness of growth and development of the economy on the distribution of income and wealth it becomes important to investigate how the gains of economic growth in India have been distributed. The present paper will try to find out that which section of the society has been benefited more from the increase of the national income and wealth and whether the distribution of income has improved or not after crossing more than 60 years of planning particularly after the economic reforms when India registered exceptionally high growth.

Theoretical Background

The study about the linkages between growth of income and distribution of income and wealth has always been in the centre of discussion among the economists, social scientists and other social groups. Marx (1990) believes that the distribution of income and wealth must be based on individual needs rather than his ability to produce but accepted that inequalities in distribution of income and wealth (Yi) is necessary for growth of income (Yg) because inequalities in income and wealth improves the propensity to save and capital accumulation which is a pre requisite of economic growth. Diagrammatically it can be explained as;

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The same view is shared by Classical economists (Kaldor, Nicoals 1955). They also believed that inequality has positive impact on the growth of an economy because wealth (W) is positively related with savings and every increase in this increases the marginal propensity to save (MPS).

MPS = f (W)

Inequalities in wealth increases the savings (S) as rich people have more power to save which helps in capital accumulation (K) and ultimately the economic growth. This relationship may be represented as;

Yi →↑ MPS →↑ S →↑ K→↑ Yg

In contrast Neoclassical theory ignores the relevance of inequalities on economic growth and states that inequality is irrelevant for the macroeconomic analysis (Kaldor, Nicoals, 1955). Inequality is not a cause but a consequence of growth process and the neo classical theorists changed the very relationship between Yi and Yg from

Keynes (1936) and Modern theorists (Galor & Zeira, 1993, Alesian & Rodrik 1994, Persson & Tabellini, 1994 and Perotti, 1996) are of the opinion that inequality is not good for economic growth because it reduces the aggregate demand since rich people have low marginal propensity to consume (MPC) and the relationship between these variables turns as;

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Later Kuznets (1955) in his study tried to identify the long term effect of economic growth in improving income distribution by giving inverse U shape relationship between inequality and per capita income (PCI) growth.

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He concluded that initially growth in PCI has positive relationship but after some time further increase in PCI reduces income inequality. But consequent studies conducted by Ahluwalia (1976), Saith (1983), Papanek and Kyn (1986), Ram (1988), Anand and Kanbur (1993), Campano and Salvatore (1988) and Deininger and Squire (1998) find little support for the Kuznets hypothesis.



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Aligarh Muslim University – Department of Economics
impact economic growth income inequalities



Title: Impact of Economic Growth on Income Inequalities