Introduction
In wealthy nations, concentrations of poverty always exist and persist. The major reason for poverty concentration is income inequality. The causes can best be understood using three theoretical perspectives: labor market dynamics, institutional view, and socioeconomic environment view.
This paper therefore explores the causes of such concentrations and localities of poverty using the three theoretical perspectives. It then provides remedies for the inequality witnessed and gives an analysis of why the causes and remedies to income inequality in rich nations may differ from those of poor economies.
Poverty definition
Poverty is a deprivation of basic needs and well being in people. In simple terms, poverty is best understood as the lack of money or commodities in general and the inability to access opportunities to functions within a society [Handbook: pp1]. The use of income paradigm helps to monetize the concept of poverty.
Even though the average income of people living in developed countries is above the poverty line, the nations still experience concentrations of poverty especially when it comes to income inequality. The gap between high income earners and low income earners is widening despite the fact that there a reduced gap between the rich and the poor.
Reasons for concentrations of poverty
There are three main perspectives that help understand the causes of income inequality in developed countries. The three include socioeconomic environment view, institutional view, and labor market dynamics.
Labor dynamics
Two approaches can be used to explain how labor dynamics increases concentrations of poverty in developed economies. The first one is skill-biased technical change. According to this approach, there is creation of a technological shift that favors a portion of the labor market and leaving the other portion trying to cope with the situation. For instance, advances in technology will favor highly skilled workforce over the low skilled workforce.
Essentially, demand for high skill labor has been on the rise within developed countries thereby creating biasness in the labor market. As the demand for high skilled labor increases, the wages also increases leading to a wage inequality in the labor market. This may be illustrated using a supply-demand model. When new technologies are introduced, supply of skilled labor expands at a slower rate than demand does. There is competition between innovation and education.
As for low-skilled labor, both supply of and demand for it decreases over time, resulting in no upward pressure on wages. At the same time, skill-biased technical change leads to increasing labor market premium to skill and thus increasing wage in high-skilled labor market. Therefore, distributional problems arise. In addition, changes in international trade patterns and off-shoring also have impact on demand for skills, especially for people at the bottom of skill-income distribution.
Additionally, the effects of the labor market dynamics on the poverty concentration can be explained using the traditional models. The Kuznet hypothesis and Lewis model predict that income inequality should follow an inverse U-curve along the process of development [Understanding poverty pp63].
Empirically observed curves over a long term do not provide strong supports to this hypothesis. Kuznets stressed development as a process of economy moving from rural (labor-intensive) sector to urban (IT-intensive or labor saving) sector. His argument seems to be supported by the 1913-1948 inequality declines in many developed countries. But they seem “to be due to specific economic shocks and circumstances” that do not have much to do with labor migration. [Understanding poverty p64]
Institutional view
Both formal and informal institutions play important roles in disparities of incomes. In formal institution, expansion of educational infrastructure cannot match up with the expansion of innovation and technology.
There is unequal distribution of resources through redistribution and welfare transfer. Redistribution of resources occurs through mechanisms such as divorce charity, welfare, monetary policies, and taxation. The currently existing policies and government interventions on redistribution of incomes do not favor income equality.
The regulation in labor market lack control over executive compensation. In as much as high income earners are taxed, the policies on taxation do not favor the low and middle income earners. In regards to the informal institution and social norms, executive compensation has been noted to have a phenomenal increase in the US between 1970 and 2000. This rise is disproportionate to the rise in executives’ productivity and efficiency. In Europe during the same period, no such observation was made.
The social economic environment view
This perspective is best understood under the view of informal institutions [Groups 146-147]. At individual levels, parental income on offspring education has been identified to have an impact on income disparity witnessed in developed countries. Most young people opt for high education in order to attain high income.
Those with low levels of education cannot attract certain kinds of jobs with high income levels. At the social levels, there is clustering of poverty which affects individual’s social economic outcomes. Poverty level in urban centers within developed countries is framed on the living conditions of dwellers. There are neighborhoods for the wealthy, the upper middle class, and the lower middle class.
There are also neighborhoods that enclave on ethnicity and racial backgrounds. This clustering creates an effect on the individual and social economic outcomes. The behavior of individuals within these groups and neighborhoods is influenced by the characteristics and earlier behaviors of elder members of the group. Peer group effect has also been identified to play a role in the economic outcomes of the individuals in the groups [Groups 147].
Remedies
Reducing income disparity witnessed in developed countries can be achieved through various mechanisms. The two major ways may include redistribution through benefits and taxation, and ensuring smaller income differences before taxation. However, the redistribution methods should ensure a progressive tax system and estate tax.
Both approaches cab be used collectively or combined to address the situation of income inequality within developed countries. The nature of government activities relating to the economy of a nation makes it impossible to have equal income distribution, especially in a free market economy or a mixed market economy. Income distribution will always be unequal. However, government interventions and regulations can help reduce the disparity.
The idea of wage compression and minimum wage encourages investment in non skilled labor thereby reducing the biasness witnessed whenever there is technical change [Understanding poverty p68]. Regulations in the labor market need to be structured in way that encourages parity in income levels. For instance, there are no regulations to review the compensation for the c-level management.
Why different
Institutional and geographical factors have been described to be at the center of differences in prosperity. The nations located in the tropics are not as rich as those located in the temperate areas. This does not necessarily imply that climatic conditions have a major role in economic outcomes, but it is a determinant of prosperity. Additionally, the institutions within these areas greatly differ. The main reason for this difference is because of the shaping that transpired during the colonial era.
As the Europeans settled in different areas, they set institutions based on the need of each location. For instance, the whites created institutions that attracted economic progress and investment in geographical areas associated with temperate climate. At the tropics, the kinds of institutions set up in these areas were extractive in nature making these areas to be less prosperous.
Geography becomes an important factor to explain the difference because of the historical role it plays in economic outcomes. Some of the nations that are rich today have been rich since history and this can be attributed to their geographical location. The tropic areas were also once richer than the temperate areas, but the impact of colonial activities turned the tables for these areas [33].
Institutions vary over time and across countries. They affect both the economic prosperity and the distribution of income. Good and effective institutions have the implication of enforcement of the rule of law and property rights. They give rise to well-functioning markets, development of infrastructure, and innovation. They also increase social welfare. But the change from dysfunctional institutions to good ones may be blocked by powerful groups whose interests may get hurt if the change takes place [p20-21].
Conclusion
Based on the discussion developed in the paper, it is apparent that even though the average income of people living in developed countries is above the poverty line, the nations still experience income inequality. In order to understand the causes of inequality in rich nations, three theoretical points of view have been used: labor market dynamics, institutional view, and socioeconomic environment view.
Recommendations on solutions to the problem have also been provided. The remedies focus on two major areas: redistribution of income and ensuring smaller income differences before taxation. Lastly, institutional and geographical factors have been used to explain the differences in remedies and cause of poverty between developing nations and developed economies.