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Executive Summary

This paper provides an introductory review of alternative possible distributions which can be used in comparing inequality and poverty. Emphasis is placed on choosing the unit of analysis and the income measure. The role of alternative value judgements at each stage is stressed.

It is shown that care is needed to ensure that spurious comparisons are avoided. This paper attempts to clarify the various alternatives, both for users of data and those wishing to interpret results. Inequality comparisons nearly always give rise to technical and data difficulties, though these are not examined here.

The contexts discussed here include analyses of the redistributive effects of direct taxes and transfers, along with the effects of indirect taxes. In addition, ‘fiscal incidence' studies attempt to allocate some government expenditure, such as health and education, to individuals as well as considering the distributional impacts of indirect taxes, direct taxes and transfers. Simple hypothetical numerical examples are used to highlight the alternative approaches and their resulting distributions.

Using a hypothetical population consisting of just four households, the paper explores the role of adult equivalence scales, designed to deal with the fact that individuals are not homogeneous. Explicit sharing rules, whereby total household income is allocated among all household members, are discussed. Various measures of redistribution and progressivity are reported for a range of comparisons.

The additional difficulties involved in making inequality comparisons over time are also examined. In particular, both the tax and transfer system and the population structure (for example the age distribution of the population) can change over time. A method of disentangling the separate effects of tax and demographic changes is described.

Inequality comparisons inevitably involve an element of pragmatism. They depend on measures and approaches that have known limitations, and face data and modelling limitations. It is therefore extremely important to be as clear as possible about the approach used, to provide a wide range of results to allow readers to use their own judgement, and to exercise caution in interpreting results.

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