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On the inefficiency of inequality

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  • Schiff, Maurice

Abstract

A number of studies have examined the implications of preference interdependence. This paper models individual utility as depending either on the level of other people's consumption or on the difference in consumption levels. It assumes that the impact of an increase in other people's consumption on individual utility diminishes with the level of consumption, raising individual utility when that consumption is very small and lowering it when that consumption is very large. Based on that plausible assumption, the paper shows that, whether individual utility depends on the level of other people's consumption or on the difference in consumption levels, i) welfare declines with inequality, ii) equilibrium inequality is inefficient, and iii) the optimal intervention leads to a more equal distribution. Implications for the role of development institutions are examined.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 3360.

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Date of creation: 01 Jul 2004
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Handle: RePEc:wbk:wbrwps:3360

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Keywords: Economic Theory&Research; Labor Policies; Environmental Economics&Policies; Financial Intermediation; Services&Transfers to Poor; Economic Theory&Research; Inequality; Environmental Economics&Policies; Governance Indicators; Financial Intermediation;

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  1. Alesina, Alberto & Di Tella, Rafael & MacCulloch, Robert, 2004. "Inequality and happiness: are Europeans and Americans different?," Journal of Public Economics, Elsevier, Elsevier, vol. 88(9-10), pages 2009-2042, August.
  2. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 107(2), pages 205-251, April.
  3. Jeff Dayton-Johnson and Pranab Bardhan., 1996. "Inequality and Conservation on the Local Commons: A Theoretical Exercise," Center for International and Development Economics Research (CIDER) Working Papers, University of California at Berkeley C96-071, University of California at Berkeley.
  4. Galor, Oded & Zeira, Joseph, 1988. "Income Distribution and Macroeconomics," MPRA Paper 51644, University Library of Munich, Germany, revised 01 Sep 1989.
  5. Ernst Fehr & Klaus M. Schmidt, . "A Theory of Fairness, Competition and Cooperation," IEW - Working Papers 004, Institute for Empirical Research in Economics - University of Zurich.
  6. Bénabou, Roland, 1996. "Inequality and Growth," CEPR Discussion Papers, C.E.P.R. Discussion Papers 1450, C.E.P.R. Discussion Papers.
  7. Andrew B. Abel, . "Asset Prices Under Habit Formation and Catching Up With the Jones," Rodney L. White Center for Financial Research Working Papers, Wharton School Rodney L. White Center for Financial Research 1-90, Wharton School Rodney L. White Center for Financial Research.
  8. Persson, T. & Tabellini, G., 1993. "Is Inequality Harmful for Growth," Papers, Stockholm - International Economic Studies 537, Stockholm - International Economic Studies.
  9. John Y. Campbell & John H. Cochrane, 1994. "By force of habit: a consumption-based explanation of aggregate stock market behavior," Working Papers 94-17, Federal Reserve Bank of Philadelphia.
  10. Barro, Robert J, 2000. " Inequality and Growth in a Panel of Countries," Journal of Economic Growth, Springer, Springer, vol. 5(1), pages 5-32, March.
  11. Pollak, Robert A, 1976. "Interdependent Preferences," American Economic Review, American Economic Association, American Economic Association, vol. 66(3), pages 309-20, June.
  12. Banerjee, Abhijit V & Newman, Andrew F, 1991. "Risk-Bearing and the Theory of Income Distribution," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 58(2), pages 211-35, April.
  13. Harald Uhlig & Lars Ljungqvist, 2000. "Tax Policy and Aggregate Demand Management under Catching Up with the Joneses," American Economic Review, American Economic Association, American Economic Association, vol. 90(3), pages 356-366, June.
  14. Bill Dupor & Wen-Fang Liu, 2003. "Jealousy and Equilibrium Overconsumption," American Economic Review, American Economic Association, American Economic Association, vol. 93(1), pages 423-428, March.
  15. Robson, Arthur J, 1992. "Status, the Distribution of Wealth, Private and Social Attitudes to Risk," Econometrica, Econometric Society, Econometric Society, vol. 60(4), pages 837-57, July.
  16. Baland, J-M & Platteau, J-P, 1997. "Wealth Inequality and Efficiency in the Commons," Papers, Notre-Dame de la Paix, Sciences Economiques et Sociales 193, Notre-Dame de la Paix, Sciences Economiques et Sociales.
  17. Axel Ockenfels & Gary E. Bolton, 2000. "ERC: A Theory of Equity, Reciprocity, and Competition," American Economic Review, American Economic Association, American Economic Association, vol. 90(1), pages 166-193, March.
  18. Alesina, Alberto & Rodrik, Dani, 1994. "Distributive Politics and Economic Growth," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 109(2), pages 465-90, May.
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Cited by:
  1. Gruen, Carola & Klasen, Stephan, 2012. "Has transition improved well-being?," Economic Systems, Elsevier, Elsevier, vol. 36(1), pages 11-30.

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