In taking steps to redistribute income from the rich to the poor; governments may harm economic efficiency and reduce the amount of national income available to distribute. On the ocher hand, If equality Is a social good. it is one worth pay for.
Redistribution Costs In Diagrams
We can illustrate Roku’s point by using the income possibility curve of Figure 19-5.This graph shows the incomes available to different groups when government programs redistribute income.
Welling by dividing the Population in half; the real income of the low-income group is measured on the vertical axis of Figure 1%, while the income ~f the upper half is measured on the horizontal axis. At. point A, which is the preregistration point, no taxes are levied and no transfers are given, so people s~ply 1 M with their market incomes. In a competitive economy, point A Wilfred efficient and ‘the no-redistribution policy maximizes total national income.
Unfortunately, at Marseillaise point A, the upper income group receives substantially more income a: than the Sower half. People might strive for greater equality by tax and transfer programs” hoping to move toward the point of equal incomes at E. If such
steps could be taken without reducing national output, the economy would move along the black lin from A toward E. The slope of the Af line is -.45·, reflecting the assumption about efficiency that the re distributive bucket has no leaks, so every dollar
taken from the upper half increases the income of the lower half by exactly $1.Along the ~45· line, total national income is constant, indicating tbit re distributional programs have Do impact upon the national incompetent.
Most re distributive programs do affect efficiency. 1f a country redistributes coincide by imposing high tax rates on the wealthiest people. their & awl sand work effort may be reduced or misdirected. with a resulting lower total national Outputted may spend more money on tax. lawyers, save less for retirement, or invest less in highlighting but risky innovations. Also, if society puts a guaranteed floor beneath the incomes of -the poor. the sting of poverty will be reduced and the poor may work less. AD these reactions to re distributive programs reduce the total size o f real national income.
‘In terms. of Okra’s experiment. we might find that for every $100 of taxation on the rich, the income <?fthe poor increased by oily $50, with the rest dissipated because of reduced effort or administrative costs. The bucket of redistribution has developed a large leak. Costly redistribution is shown by the ABZ curve in Figure ~9-5. Here, the hypothetical frontier of real incomes bends away from the -45° line because taxes and transfers produce inefficiencies.