Is Thailand s Fiscal System Pro-Poor?: Looking from Income and Expenditure Components. Hyun Hwa Son

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1 Is Thaland s Fscal System Pro-Poor?: Loong from Income and Expendture Components Hyun Hwa Son The World Ban 88 H Street, NW Washngton, D.C , U.S.A. Emal: Abstract: Ths paper develops a methodology to assess a government s fscal polcy from the equty pont of vew. Through ths method, a government can assess whether ts publc expendtures beneft the poor or the rch n a socety. Lewse, ths methodology also helps to revew whether a government s tax polcy s pro-poor or pro-rch. Ths dea of assessng a government s publc polcy s appled to Thaland. Keywords: Inequalty, Fscal polcy, Publc polcy, Tax progressvty, Welfare, Thaland

2 : Introducton The purpose of ths paper s twofold; t frst develops a new methodology to assess the mpact of government fscal polces on socal welfare and secondly, t provdes a detaled analyss of Thaland s fscal system from the vewpont of ts mpact on ncome dstrbuton. Ths s an mportant ssue n Thaland because of ts persstently hghncome nequalty. A fscal system has many components, each of whch has dfferent mpact on socal welfare. Some components are more equtable (or nequtable) than others. Ths paper deals wth questons, such as: How equtable are the dfferent components of a fscal system? How can a fscal system be reformed n order to mae t more equtable? To assess and reform a government s polces, one needs to have a socal welfare functon that can be put nto practce. The socal welfare functon should also be flexble enough to allow changes to be made to the weghts gven to ndvduals at dfferent segments of the ncome dstrbuton. Ths study proposes the use of a class of homothetc socal welfare functons proposed by Atnson (970). Ths class of socal welfare functon depends on an nequalty averson parameter through whch one can change the weghts gven to ndvduals at dfferent segments of ncome dstrbuton. In the past, many studes have attempted to assess the mpact of government fscal polces on ncome dstrbuton. Among them, the most mportant one s by Lerman and Ytzha (985, 994), who quantfed the mpact of taxes and transfers on the Gn ndex. They used the dea of dsaggregatng the Gn ndex by factor components, frst ntroduced by Rao (969) and subsequently further developed by Kawan (977, 980, 985), Fe, Rano and Kuo (978), Felds (979), Pyatt, Chen and Fe (980). However,

3 2 the methodology proposed n ths paper dffers manly from the prevous wors n a way that ths paper utlzes a class of Atnson s socal welfare functons, whch s dfferent from the socal welfare functon mpled by the Gn ndex. Ths class of welfare functons as ponted out allows changes to the weghts gven to ndvduals at dfferent segments of ncome dstrbuton. The study uses the dea of welfare elastcty. It proposes a welfare reform ndex and a prce reform ndex that can be used to brng margnal reforms to government fscal polces. These ndces ensure that the reform leads to maxmum mprovement n socal welfare. The methodology developed n the paper s then appled to assess the Thaland s fscal system. Ths study utlzes the unt record data obtaned from the 998 Soco- Economc Survey conducted by the Natonal Statstcal Offce n Thaland, provdng comprehensve detals of ncome and consumpton expendture sources. 2: Atnson s welfare functon Atnson s socal welfare functon s derved from the concept of the equally dstrbuted equvalent level of ncome, whch denoted by x*, s the level of ncome f receved by everyone, would mae the total welfare exactly equal to the total welfare generated by the actual ncome dstrbuton. Atnson assumed that the socal welfare functon s utltaran and every ndvdual has exactly the same utlty functon. Under these condtons, x* s gven by u(x*) = uxgxdx ( ) ( ) 0 () The Atnson s socal welfare functon s ndependent, whereas the socal welfare functon of the Gn s nterdependent.

4 3 where x s ncome, whch s a random varable wth densty functon g(x) and u(x) s the utlty functon. To mae the socal welfare measure x* homogeneous of degree one, the utlty functon has to be homothetc. A class of homothetc utlty functons s gven by ε x u ( x) = A + B, ε ε = A+B loge ( x), = ε (2) where ε > 0 s the measure of relatve rs-averson or the ndcator of relatve senstvty to ncome transfers at dfferent ncome levels. As ε rses, more and more weght s attached to ncome transfers at the lower end of the dstrbuton and less weght to transfers at the top. If ε = 0, t reflects an nequalty neutral atttude, n whch case the socety does not care about nequalty at all. If ε approaches nfnty, then the socety s only concerned about the poorest person. Ths corresponds to Rawls s (972) maxmum rule, whereby the socal objectve s to maxmze the welfare level of the worst-off ndvdual. The socal welfare measure x* s flexble n terms of weght gven to ndvduals at dfferent level of ncome. If the socety s concern s very poor persons, then ε should obvously tae a hgh value. How hgh value t should tae depends on how much equtable a socety wshes to be. 3: Welfare and Income Components The total ncome of an ndvdual s equal to the sum of all ncome components. Let v (x) equal the th ncome component of an ndvdual havng the total per equvalent adult ncome x. Thus,

5 4 x= v ( x) = Suppose µ s the mean ncome of the th ncome component. Therefore, (3) µ = v 0 ( x) g( x) dx where g(x) s the ndvdual densty functon. Combnng (3) and (4) gves (4) = µ = µ (5) If ndvduals (or households) are arranged n ascendng order of ther ncome x, one can construct the Lorenz functon L(p) whch s the ncome share of the bottom 00 p percent of the ndvduals. Smlarly, one may construct the concentraton curve C (p) whch s the share of the th ncome component of the bottom 00 p percent of ndvduals when ndvduals are arranged n ascendng order of ther total ncome x. Usng the propertes of the Lorenz and concentraton curves gven n Kawan (977, 980), gves x = µ L'( p) (6) and v ( x) = µ C'( p) where L (p) and C (p) are the frst dervatves of L(p) and C (p) wth respect to p, respectvely. Substtutng (6) and (7) nto (3) gves (7)

6 5 x = µ L'( p) = µ C '( p) = We may now wrte the welfare measure x* defned n () n Secton 2 as (8) ux ( *) = u[ µ C'( p)] dp 0 = (9) where dp = g(x)dx, 0<p<, and 0<x<. We assume that the mean of the th ncome component changes wthout affectng ts dstrbuton across ndvduals: C (p) remans constant when µ changes. Dfferentatng (9) wth respect to µ yelds x * u'( x*) = µ 0 u'[ µ C '( p)] C '( p) dp = whch gves the elastcty of x* wth respect to µ as x * µ η = = µ x* x* u'( x*) 0 u'( x) v ( x) g( x) dx (0) where (6) and (7) are used. If the mean of the th ncome component changes by percent, the socal welfare x* wll be changed by η percent. For smlar reasons we can derve the elastcty of x* wth respect to µ as η = x* u'( x*) 0 u'( x) xg( x) dx () It can be easly seen from (3), (0), and () that

7 6 η = = η (2) whch always holds. Ths equaton shows that f all ncome components change by percent, the socal welfare x* changes by η percent. Let us assume that the utlty functon s homothetc as defned n (2). Thus, substtutng (2) nto (0) gves ε x v ( x) g( x) dx 0 η =, ε ε x g( x) dx 0 v x ( ) = gxdx ( ), ε = (3) x 0 Note that substtutng v = x gves η = η. It can be easly seen that η = for the entre class of homothetc utlty functons. Ths mples that η = =. Snce the welfare elastcty n (3) enables us to measure the effect on a socety s total welfare of a small change n the th ncome component, the hgher the value of ths elastcty, the greater wll be the welfare superorty of that ncome component. 4: Welfare Reform Index How does nequalty n socety change when the th ncome component changes by percent? To answer ths queston, we calculate the elastcty of nequalty wth respect to µ. Atnson s nequalty measure, A, s defned as

8 7 A = x * µ, whch on dfferentatng wth respect to µ gves A µ x * µ δ = = η µ A ( µ x*) [ µ ] (4) whch can also be wrtten as µ ( µ x*) η = δ µ x * (5) The frst term on the rght-hand sde of (5) may be called the ncome effect. It s the percentage change n the mean ncome of the socety when the mean ncome of the th component changes by percent but nequalty remans constant. The second component on the rght-hand sde of (5) may be called the nequalty effect : t s the percentage change n total welfare as a result of ncome redstrbuton caused by the change n the th ncome component. It s the nequalty effect that tells us whether an ncrease n µ favours the rch or the poor n a socety. If ths component s postve (negatve), t means that the ncrease n the th ncome component redstrbutes ncome n favour of the poor and thus ncreases the socal welfare. Ths leads us to suggest a welfare reform ndex η φ = s (6)

9 8 where s = µ µ s the share of the th ncome component n the total ncome. If φ s greater (less) than, any ncrease n one dollar of the th ncome component wll ncrease the socal welfare more (less) than one dollar. φ measures the margnal benefts n terms of ncreasng socal welfare due to an extra dollar spent on the th ncome component. Suppose and j are two dfferent government transfer programs and f φ >φ j, then one dollar spent on the th program wll lead to a greater ncrease n socal welfare than one dollar spent on the jth program. In other words, we can mprove socal welfare by cuttng down expendture on the jth program and ncreasng the expendture on the th program by the same amount. If our objectve s to maxmse socal welfare, then φ can be usefully employed to brng margnal reform n government tax-expendture polces. How can we maxmse an ncrease n socal welfare wth a fxed government budget constrant? Suppose the government budget s fxed at C dollars, whch s allocated to each of the ncome components n such a way that the th component gets an allocaton of C. Thus, the budget constrant wll be C = C =. Suppose further that an expendture of C ncreases the th ncome component by r percent,whchnturnwll ncrease socal welfare by η r. Ths mples that the total expendture of C dollars wll ncrease socal welfare by η r. It s reasonable to assume that the expendture = allocaton of C s equal to the ncrease n the th ncome component, µ r. Therefore, the budget constrant s gven by

10 9 C = µ r = We maxmze the total ncrease n socal welfare gven by η r budget constrant (7). Formng a Lagrange multpler = (7) subject to the L = η + λ[ ] = r C µ r = whch on dfferentatng wth respect to r gves the frst order optmum condton A = r η λµ = 0 Summng the frst order condton over = to gves λ =. Thus, for an optmum µ ncrease n socal welfare, the welfare reform ndex φ should be made equal to unty. More mportant, the government budget should be allocated n such a way that φ s equalzed for every ncome component. The larger s φ, the greater should be the allocaton of government expendture to that component. Ths wll lead to a maxmum ncrease n socal welfare under the government budget constrant. 5: Indrect Taxes and Subsdes Indrect taxes and subsdes have a drect mpact on prces. To brng welfare reforms to ndrect taxes and subsdes, we need to measure the mpact of prce changes on socal welfare. Ths tas can be accomplshed by dervng welfare elastcty wth respect to prces of ndvdual commodtes. To derve the elastcty, let us wrte the demand equatons for m commodtes as

11 0 q=q(x,p) where p and q are the m vectors of prces and quanttes on m commodtes and x s the dsposable ncome. It s reasonable to assume that all ndvduals face the same prce vector, whch means that the prces are fxed across ndvduals. Thus, we wrte the demand equaton as q=q(x) whch are the quanttes consumed by an ndvdual wth dsposable ncome x. 2 Utlzng these demand equatons, let us wrte the dsposable ncome as m x = pq ( x) + S( x) = (8) where p s the prce of the th commodty and q (x) s the quantty of the th commodty consumed by an ndvdual whose dsposable ncome s x, where =, 2,.., m. S(x) s the savngs of the ndvdual wth ncome x. Suppose that due to ndrect taxes and subsdes, the prce vector p changes to p*, then how wll ths change affect the ndvdual s real ncome? To answer ths queston, we consder the cost functon e(u, p), whch s the mnmum cost requred to obtan u level of utlty when the prce vector s p. The real ncome of the ndvdual wth ncome x wll change by 3 x = [(, e u p*) e(, u p)] (9) 2 Note that wrtng the demand equatons n the form q=q(x) does not mply that all own-prce and crossprce elastctes of demand are zero. It only mples that prces do not vary across ndvduals. 3 CV=[e(u,p*)-e(u,p)] s the compensaton varaton, the compensaton that should be gven to an ndvdual to mantan hs or her utlty level the same as before the prce change.

12 whch on usng Taylor s expanson gves m x = ( p * p) q( x) = Ths equaton mmedately gves x p = q ( x) (20) Dfferentatng () wth respect to p and usng (20) gves x * u'( x*) p = 0 u'( x) q ( x) g( x) dx whch gves elastcty of x* wth respect to p as x * p p ε = = p x * x* u'( x*) 0 u'( x) q ( x) g( x) dx (2) whch wll be negatve because an ncrease n any prce wll reduce socal welfare. It wll be useful to wrte pq pq ε = + ( ε + ) (22) µ µ where µ s the mean ncome of the dsposable ncome and pq s the mean expendture of the th commodty. The frst term n (22) s the ncome effect of the prce ncrease and the second term s the redstrbuton or nequalty effect of prce change. It s the redstrbuton effect that

13 2 tells us whether an ncrease n prce p hurts the poor more than the rch. If ths component s postve, t means that the th prce ncrease hurts the rch more than the poor. Ths leads us to suggest the prce reform ndex: ε φ = s (23) where s pq = s the expendture on the th commodty as a proporton of the total x ncome. If φ s greater (less) than, an ncrease n the th prce hurts the poor more (less) than the rch. Thus, f φ s greater than, then the th commodty should be subsdzed so that the poor beneft more than the rch. Smlarly, f φ s less than, the ncrease n tax on the th commodty wll hurt the rch more than the poor. On ths account, φ can be used to mprove the tax or subsdy system so that socal welfare s maxmsed. 6: Fscal Structure n Thaland Pror to analyzng the emprcal results, t s worth dscussng the overall fscal system and partcularly the revenue structure n Thaland. Le many Asan countres, the structure of the fscal system n Thaland s hghly centralzed. In 998, central government revenue accounted for about 95 percent of total tax revenue and central government s expendture contrbuted almost 92.3 percent to total government spendng (NSO 2000). It s generally beleved that the centralzed fscal system contrbutes to the unequal dstrbuton of publc servces, such as publc nfrastructure, educaton and

14 3 health. It may be ponted, however, that the decentralzaton of government fnances s tself not suffcent to acheve an equtable fscal system. Items, such as medcal care, educaton, and transport and communcaton mae up sgnfcant proporton to the government expendture. Educaton and research too the largest share of total government spendng n 998, whch accounted for around 35 percent. General admnstraton and defense accounted for 20 and 9 percent of total government expendture n the same year, respectvely. Whle the share of expendtures on health was around 2 percent, the expendture on welfare servces remaned only 0.5 percent of total government spendng. In addton, other tems, such as justce and polce, transport and communcaton facltes, and other servces made up around 9 and 2 percent of total government spendng n 998. In terms of revenue structure, taxaton has been the major source of government revenue: n percent of total revenue was generated from tax. The non-tax revenue has always been ept extremely low at around 0 percent of total revenue n Thaland. The majorty of tax revenue has been derved from ndrect taxes, whch accounted for 59 percent of total tax revenue n 998. Snce ndrect taxes are regressve and nelastc to the natonal ncome, ths hgh proporton of ndrect taxes tends to adversely affect the ncome dstrbuton n Thaland. The revenue share of drect taxes was almost 28.7 percent n 998, whch can be deemed low le other developng countres. Personal ncome tax accounted for around 4.5 percent of drect taxes over ths perod, whle corporate tax contrbuted to total tax revenue by 4.3 percent. Corporate ncome tax has been ncreasng gradually throughout the 980s and the 990s.

15 4 Wthn the ndrect tax structure, selectve sales taxes, mport dutes, and value added taxes contrbute most to the total ndrect taxes. These three taxes accounted for about 59 percent of total tax revenues n 998. Value added taxes, ntroduced n Thaland n 992, have been an mportant source of ndrect taxes, whch contrbuted to the total tax revenue by around 9.4 percent n 998 (NSO 2000). 7: Data llustraton The data source comes from the Soco-Economc Surveys (SES) conducted n 990, 996, 998 and The SES data are unt record household surveys conducted every two years by the Natonal Statstcal Offce n Thaland. The survey s naton-wde and covers all prvate, non-nsttutonal households resdng permanently n muncpal, santary dstrcts, and vllages. However, t excludes part of the populaton lvng n transent hotels or roomng houses, boardng schools, mltary barracs, temples, hosptals, prsons and other such nsttutons. The SES contan detaled nformaton on ncome and consumpton components for more than 60,000 ndvduals lvng n more than 20,000 households. In ths paper, per capta welfare-ncome (expendture) s used as a welfare ndcator. Per capta welfare-ncome (expendture) s expressed as the rato of per capta total ncome (expendture) to per capta poverty lne (expressed n percentage). Ths paper uses the offcal poverty lne developed by Kawan and Krongew (997) for Thaland, whch taes nto account spatal prce ndces as well as ndvdual needs that dffer dependng on household sze and ts composton. 8: Income Inequalty by Income Components Before applyng our methodology, we frst loo nto nequalty of each ncome component. Although money ncome s wdely used to measure economc welfare, t has many serous drawbacs. The major drawbac s that t excludes several n-nd transfers, mputed rent, home producton, voluntary lesure, and net worth or wealth. Excluson of

16 5 these factors can substantally alter the true economc status of ndvduals lvng n the household, and consequently, based estmates of the dstrbuton of economc welfare may emerge. The concept of ncome used n ths paper s farly comprehensve. It ncludes () wages and salares () net profts from non-farmng and farmng () current transfer payments, such as assstance payments, pensons, scholarshps and grants (v) property ncome such as land rent (v) other money ncome (v) n-nd ncome whch ncludes the value of goods and servces receved as part of pay, home-produced and consumed (ncludng rental value of owner occuped dwellng) or receved free from other sources. In general, ncome s regarded as all recepts (cash or n-nd) that are receved regularly and are of a recurrng nature. Certan recepts are not consdered to conform to ths crteron and are thus treated as beng outsde of the scope of the present study. Such recepts nclude nsurance proceeds, lottery wnnngs and other wndfall recepts. Suppose x s the total ncome of a household, whch s the sum of several ncome components. If households are arranged accordng to ther total ncome, then we can wrte the Gn ndex of x as (Kawan 977, 980) G= j= s j C j (24) where s the total number of ncome components, s j s the share of jth component and C j s the concentraton ndex of the jth ncome component. The concentraton ndex of an ncome component measures how evenly or unevenly the ncome component s dstrbuted over the total ncome of household. If C j s greater (smaller) than the Gn ndex, t ndcates that the jth ncome component s dstrbuted over the total ncome n favor of rcher (poorer) ndvduals. Equaton (24) expresses the Gn ndex of total ncome as the weghted average of the concentraton ndex of each factor ncome component, where weght s proportonal

17 6 to the share of each ncome component. Ths equaton provdes the quanttatve framewor to analyze the contrbuton of each of these components to total nequalty. Total nequalty can be changed due to two factors, share of ncome component and concentraton ndex. Equaton (24) can be used to separate the effects of the two factors. Thus, we can wrte as follows. G = C s + s C j= j j j j j= (25) where s j s the mean of the shares of jth ncome component for two perods and C j s the mean of the concentraton ndces of jth ncome component for two perods. The frst term n the rght hand sde of (25) measures the effect of changes n ncome component shares, whereas the second term measures how the jth ncome component s dstrbuted across total ncome. Note that Equaton (25) also provdes the contrbuton of each ncome component to total nequalty. C j and G j (the Gn ndex of the jth ncome component) are related by C = ρ G j j j where ρ j Rx [ j, rx ( )] = Rx [, rx ( )] j j s the correlaton term. r(x) s the ran of total ncome and r(x j ) s the ran of the jth ncome component. R[a,b] stands for the correlaton coeffcent between a and b. ρ j = f x and x j have the same ranng, whereas ρ j =-fx and x j have completely opposte (26) ranng. The larger (smaller) value of ρ j favors the rch (the poor) and thus, an ncrease (decrease) n ρ j wll ncrease (decrease) total nequalty. From (26), we can wrte C = ρ G + G ρ (27) j j j j j whch on substtutng n (25) yelds G= Cj sj + sjρ j Gj + sjgj ρ j j= j= j= (28) where ρ j and G j are the means of correlatons and Gn ndces of the jth ncome component over two perods, respectvely.

18 7 The second term n the rght hand sde of (28) estmates the effect of changes n the nequalty of ncome components and the thrd term measures the contrbuton of changes n the correlatons to total nequalty. In the followng secton, ths methodology wll be utlzed to explan the changes n ncome nequalty n terms of these three components gven n Equaton (28). 9: Explanng Changes n Inequalty by Income Components Table shows the actual levels of welfare of each ncome component and the share of factor ncome component n relaton to total ncome. Between 996 and 2000, per capta welfare of total ncome has declned. It ndcates that the adverse mpact of the crss on people s welfare has been prevalent up to 2000 snce the crss. As presented n Table, almost 88 percent of total ncome conssts of money ncome. Of money ncome components, wages and salares mae up most of money ncome. Moreover, the share of wages and salares to total ncome has ncreased over tme. On the contrary, the share of ncomes from farmng has declned from 4.7 percent n 996 to only.9 percent n Table : Welfare and share of ncome components Income Actual welfare levels Factor ncome shares components Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome

19 8 Table 2 gves the concentraton ndces of ncome components and the contrbuton of each ncome component to total nequalty between 996 and The concentraton ndex of money ncome s much hgher than the Gn ndex of total ncome. For nstance, n 2000 the concentraton ndex of money ncome s 52.2 percent and the Gn ndex of total ncome s 49 percent. Ths ndcates that money ncome s unevenly dstrbuted over the total ncome n favor of rch households. Money ncome maes a substantal contrbuton to total nequalty n Thaland. Table 2: Contrbuton of ncome components to total nequalty Income Concentraton ndex Percentage of contrbuton components Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome Wages and salares and non-farm profts are two major components of money ncome. Ther concentraton ndces n 2000 are 58.0 and 6. percent, respectvely, whch are much hgher than the Gn ndex of total ncome. Thus, both ncome components have a hghly unequalzng effect on the dstrbuton of total ncome. In partcular, non-farmng profts are more unequalzng than wages and salares, as ndcated by the magntude of the concentraton ndex. However, the contrbuton of wages and salares to total nequalty s expected to be much larger because the share of wages and salares to total ncome s much hgher than that of non-farm profts. The contrbuton of wages and salares to total nequalty has ncreased from 2.9 n 996 to 4.0 n 2000.

20 9 As can be seen from Table 3, the bottom quntle gets 4.5 percent of total ncome and only 3.6 percent of money ncome n The share of n-nd ncome of the bottom 20 percent s 2.0 and.2 percent n 990 and 2000, respectvely. As would be expected, a large proporton of n-nd ncome goes to the frst quntle of ncome dstrbuton. Recall from Table 2 that the concentraton ndex of n-nd ncome s 25.8 percent n 2000, whch s much lower than the Gn ndex of total ncome. Thus, the nnd ncome s heavly concentrated at the lower ncome levels. Moreover, the n-nd ncome component has an equalzng mpact on total nequalty. Table 3: Quntle shares of varous ncome components Income Quntles Components Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome Table 4 presents the Gn ndces and the correlaton coeffcents of each ncome component. It shows that the nequalty of wages and salares has ncreased from 73.

21 20 percent n 996 to 73.9 percent n Ths obvously has an effect of ncreasng the nequalty of total ncome over the perod. Table 4: Factor nequaltes and correlatons Income Factor nequalty Factor correlatons components Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome The Gn correlaton for wages and salares has ncreased from 0.75 n 996 to 0.79 n Ths mples that wages and salares are accrung more to rcher ndvduals, whch leads to an ncrease n nequalty of total ncome. Smlarly, the Gn correlaton for transfer ncome shows that transfer ncomes are flowng more to rcher ndvduals over tme. Table 5 explans the changes n nequalty of total ncome. It can be seen that the total ncrease n nequalty between 996 and 2000 s.26 percent ponts, whch s manly contrbuted by a 2.6 percent ponts ncrease n the nequalty of wages and salares. In addton, an ncrease n nequalty of transfer ncome (.05 percent ponts) maes an mportant contrbuton to the total ncrease n nequalty durng The contrbuton of wages and salares to an ncrease n total nequalty has been large because of changes n ts share and dstrbuton durng The share of wages and salares ncreased between 996 and 2000, contrbutng.25 percent ponts to the total nequalty. The ncrease n the Gn correlaton of wages and salares contrbuted to

22 2 an ncrease of.2 percent ponts to the total nequalty. Moreover, the ncrease n the nequalty of wages and salares contrbuted to an ncrease of total nequalty by 0.26 percent ponts. Thus, the dstrbuton of wages and salares (the sum of nequalty and Gn correlaton) has contrbuted.37 percent ponts to the total nequalty over the perod Table 5: Explanng changes n nequalty and Income Contrbutons due to changes n factor ncome Total Components Shares Dstrbuton Inequalty Correlaton Effect Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome Wage & salares Non-farm profts Profts from farmng Transfer ncome Property ncome Other money recepts Money ncome In-nd ncome Total ncome Profts from farmng are the thrd largest component of total money ncome. Ths would be expected n a socety le Thaland that largely reles on agrculture and other related ndustres. The share of farmng ncome s.9 percent of total ncome n 2000, whch declned from 4.7 percent n 996. Its concentraton ndex has declned over tme from 22.7 percent n 996 to 2.6 percent n Note that the farmng ncome has a hghly

23 22 equalzng effect on the dstrbuton of total ncome. Its contrbuton to total nequalty s negatve 3.2 n As can be seen from Table 5, the profts from farmng contrbuted to a reducton n nequalty by 0.77 percent ponts between 996 and The nequalty of farmng ncome has ncreased from 78.4 percent n 996 to 8.6 percent n 2000, whch contrbuted to an ncrease n total nequalty by 0.2 percent ponts. Nevertheless, the farm ncome stll has an equalzng effect on total nequalty durng because of a large fall n the share of profts from farmng to total ncome over the perod. 0: Emprcal Illustraton of Welfare Reform Index Table 6 presents the values of welfare elastcty and the welfare reform ndex for dfferent ncome components for Thaland. Publc polces can be assessed for dfferent values of the nequalty averson parameter. As ponted out, the hgher s the value of the nequalty averson parameter, the greater s the weght gven to the transfer of ncome at the lower end of the ncome dstrbuton. If the socety s concern were wth the poor, then the socety would choose a hgher value of the nequalty averson parameter. For the current analyss, two values, and 2, are selected. It can be seen that the wage and salary s a major ncome component contrbutng 42.3 percent to the total ncome after tax. The welfare elastcty of the wage and salary ncome s (when the averson parameter s equal to ), whch means that f wage and salary ncome ncreases by percent, per capta total welfare wll ncrease by If the nequalty averson parameter s ncreased to 2, the elastcty declnes to Ths, thus, mples that the effectveness of wage and salary ncome on welfare declnes as greater weght s gven to the ncomes of the poor. Ths n turn ndcates that the poorer

24 23 s a person, the smaller s the contrbuton of wage and salary to hs or her total welfare. The welfare reform ndex tells us how equtable an ncome component s. For nstance, the value of welfare reform ndex for wage and salary ncome s 0.8, whch mples that f wage and salary ncome ncreases by 00 Baht per person, the total welfare wll ncrease by only 8 Baht. Therefore, f the government polcy supports or subsdes wage and salary earners through reducng corporate ncome tax for nstance, then t wll be unable to recover the cost of ths polcy n terms of welfare gan. On the other hand, f the government subsdzes rrgaton system or other rural development programs that contrbute to hgher farm ncomes, for every 00 Baht of expendture the ncrease n welfare wll be equvalent to 40 Baht. It s then obvous that the total welfare can ncrease through redstrbutng some ncome from wage and salary earners to those dependent on farm ncome. It s sgnfcant to note that pensons mostly provded by the government go more to the non-poor than to the poor. The welfare reform ndex for ths component s 0.4, ndcatng that pensons are hghly nequtable. Moreover, when the nequalty averson parameter taes a larger value, then ts degree of nequty becomes even much larger. Remttances contrbute 6.50 percent to the total current dsposable ncome. More mportantly, the result ndcates that transfers do help poor famles. Indeed, the value of the welfare reform ndex for remttances s.20, whch shows that remttances are equtable. Thus, ths source of money ncome supports the poor more than the rch, leadng to a reducton n ncome nequalty. On the whole, major components of n-nd ncomes are hghly equtable, whereas those of money ncomes are mostly nequtable. If the government gves subsdes to

25 24 Table 6: Welfare Reform Index for ncome components: Thaland 998 Percent Averson parameter = Averson parameter =2 Sources of ncome shares Welfare Welfare Welfare Welfare elastcty Reform ndex Elastcty Reform ndex Wage and salary Entrepreneural ncome Farm ncome Rent from boarders Land rent from farmng Other rent for non-farmng Interest and dvdends Remttances Pensons and annutes Termnal pay and others Food as part of pay Rent receved as pay Other goods as pay Home produced food Owner-occuped home Other home goods Crops receved as rent Food receved free Rent receved free Other goods free Total money ncome Total n-nd ncome Taxes Income tax House & land tax Fne rate Other taxes Total current dsposable ncome

26 25 households whose major ncomes are derved from food and other n-nd sources, the poor wll beneft much more than the rch. In addton, drect taxes mposed on such money ncomes as land rent from farmng, farm ncome, and remttances wll have greater negatve effects on the poor than on the rch, resultng n a hgher nequalty n ncome. The welfare reform ndex for total tax, 0.34, ndcates that any ncreases n drect tax are lely to hurt the rch proportonally more than the poor. Of tax components, personal ncome tax maes up the hghest proporton of total drect tax. An ndex value of 0.32 mples that the mposton of tax of 00 Baht wll reduce welfare by only 32 Baht. Thus, personal ncome tax s pro-poor and ts pro-poorness becomes even hgher f more weght s gven to ncome transfers to the poorer segment of ncome dstrbuton. Ths clearly ndcates that f the government ncreases ts revenue through personal ncome tax, nequalty of ncome n Thaland wll declne. Snce the contrbuton of personal ncome tax to drect tax s only 4.5 percent, there s a consderable scope to mae the current Tha revenue system more equtable. Table 7 gves the values of welfare elastcty wth respect to prces n Thaland. Snce ncreases n prces reduce people s real ncome, all values of welfare elastcty are negatve. The welfare ndex can be ether less than or greater than one. Increases n prces hurt the poor more (less) than the rch f the welfare reform ndex s greater (less) than one. As ndcated by the values of prce reform ndces, subsdzng or exemptng any ndrect taxes on food tems mostly consumed at home wll beneft the poor proportonally more than the rch. In partcular, the hgh value of prce reform ndex for

27 26 cereal,.57, mples that any prce ncrease n cereal wll greatly hurt the poor: a prce ncrease of 00 Baht n cereal wll result n a welfare loss of 57 Baht. On the other hand, the rch wll be hurt more than the poor f prces become hgher for foods that are taen away or eaten out and for alcohol and beverages. An ndex value of.04 shows that any prce ncreases n utltes such as fuel and lght wll hurt the poor more than the rch. Hgh values of prce reform ndex of erosene, wood and charcoal mply that these tems may be subsdzed because t wll result n greater payoff n terms of welfare gan. On the other hand, electrcty and water rates have ther prce reform ndces less than unty, whch ndcates that any prce ncrease of these utltes wll hurt the poor proportonately less than the rch. The government, thus, should phase out any subsdy scheme for electrcty as well as water because ts benefts are mostly flowng to the rch. Accordng to the prce reform ndces n Table 7, any government subsdes to medcal care may beneft the rch proportonally more than the poor, whch contrbutes to an ncrease n nequalty n Thaland. Medcal care s further dsaggregated by tems of medcne and tems of medcal servces ncludng both outpatents and npatents. It can be seen that most of tems n medcne have ther values of prce reform ndex greater than one. Ths ponts to that ther prce ncreases wll hurt the poor proportonally more than the rch. By contrast, tems le vtamns and frst ad ts wll have adverse effects on the welfare of the rch f these prces become hgher. Therefore, the government should carefully assess ts prcng polces wth respect to each of these medcne tems, whch can ncrease socal welfare wthout ncurrng any addtonal costs.

28 27 Table 7: Prce Reform Index for consumpton expendture: Thaland 998 Expendture Percent Averson parameter = Averson parameter =2 Items shares Welfare prce elastcty Prce Reform Index Welfare prce elastcty Prce Reform Index Cereal Fruts & vegetable Meat Fsh Dary products Coffee & tea Sugar & sweets Tae away meal Food outsde Alcohol Non-alcohol beverages Student lunch Tabacco Clothng & footwear Shelter Furnshngs House mantenance Personal care Recreaton Ceremones Mscellaneous servces Fuel & lght Electrcty Gas for coong Gas for other purposes Charcoal Wood Kerosene Water rates

29 28 Table 7: Prce Reform Index for consumpton expendture: Thaland 998 (contnued) Expendture Percent Averson parameter = Averson parameter =2 Items shares Welfare prce elastcty Prce Reform Index Welfare prce elastcty Prce Reform Index Medcal Care Medcne Cold remedes Antvenn Dermatologcal preparaton Antseptcs Laxatves Dgestves and Antacds Antdarrheals Contraceptves Inhalant Vtamns Tradtonal and herbal drugs Frst ad ts Medcal servces Outpatents Government hosptal Prvate hosptal Prvate Clnc Doctor fees Nursng fees Eye examnaton & eye glasses Dental servces X-ray, lab fees Health-care card Inpatents Government hosptal Prvate hosptal Government other medcal servces Prvate other medcal servces

30 29 Table 7: Prce Reform Index for consumpton expendture: Thaland 998 (contnued) Expendture Percent Averson parameter = Averson parameter =2 Items shares Welfare prce elastcty Prce Reform Index Welfare prce elastcty Prce Reform Index Educaton expenses Prvate school fees Gov t school fees Prvate vocatonal tuton Gov t vocatonal tuton Prvate unversty tuton Gov t unversty tuton Textboos School equpment Specal lessons Other educaton expenses Transport & Communcaton Local transportaton Bus Tax Trcycle Motorcycle Mn bus School bus Bus for clers only Boat and ferry Trans Other local transport Travel out of area Tran fares Ar fares Bus fares Shp fares Other fares Hotel rate and meals Pacage tours (domestc) Pacage tours (abroad) Other transport

31 30 Table 7: Prce Reform Index for consumpton expendture: Thaland 998 (contnued) Expendture Percent Averson parameter = Averson parameter =2 Items shares Welfare prce elastcty Prce Reform Index Welfare prce elastcty Prce Reform Index Vehcle operaton Premum gasolne Low speed desel Lqufed petroleum gas Grease & lubrcatng ol Lubrcaton Washng Tyre repar Overhaul Spare parts repars Drvng lessons Parng rate Toll fees Other mantenance costs Others Vehcle purchase Automoble Motorcycle Bcycle Other vehcles Tyres Batteres Lcense fees Regstraton fees Other purchases Communcatons servces Telephone rate Phoneln and Pacln Membershp & nternet servces Telegraph Postage Wrtng pad and envelope

32 3 In, pens and other statonery Other communcatons Communcaton equpment Telephone handset Moble phone Phoneln and pacln Installaton fees Other equpments Consumpton expendture An ndex value of 0.80 ndcates that any subsdes provded to medcal servces wll largely beneft the rch more than the poor. Note that prvate as well as government hosptals have ther ndex values less than and thus, any prce ncreases n hosptal fees wll hurt the rch more than the poor. Moreover, subsdes on hosptals wll further ncrease nequalty n the socety because the rch wll have more benefts from the scheme. Instead, the government should drect ts subsdes to health care card, local doctor s and nurse s fees, and government medcal servces other than hosptal. It wll generate more benefts to the poor than to the rch, resultng n a reducton n nequalty. Gven that the current government spends only 2 percent of ts total expendture on health, to maxmze socal welfare any subsdy or prcng schemes have to be more effectvely targeted to the tems that can beneft the poor proportonally more than the rch. The prce reform ndex for educaton s only 0.83 when the nequalty averson parameter s one. Ths magntude tells us that subsdes gven to educaton n Thaland beneft the rch more than the poor. Ths casts doubts on the effectveness of a large proporton of government expendture on educaton: the government spent 35 percent, the

33 32 hghest proporton among other expendture components, of total expendture on educaton n 998. Therefore, f ths hgh proporton of expendture on educaton generate more benefts for the rch and contrbutes to a hgher nequalty, the government should revew expendture system n educaton. As ndcated n our results, nequalty can be reduced through gvng more subsdes on government prmary and secondary school fees, textboos, and school equpments. Smlarly, f fees for prvate schools and for hgher educaton are ncreased, the rch wll be hurt more than the poor and consequently, nequalty wll declne. Transport and communcaton s dsaggregated nto detals. Prce ncreases n transport and communcaton wll hurt the rch much more than the poor, as ndcated by ts ndex values of 0.67 and 0.36 when the nequalty averson parameter s and 2, respectvely. Ths result has an mportant mplcaton for the prcng polces n the sectors of transport and communcaton n Thaland. It may be desrable for the government to revew the exstng prcng polces n these sectors to reduce nequalty. Our result ponts to that lowerng fares of local publc transports ncludng bus, tax, and tran wll beneft the rch proportonally more than the poor. Thus, subsdzng local buses, taxes and trans wll help the rch proportonally more and lead to a further ncrease n nequalty. On the other hand, the poor wll be benefted proportonally more f local transports such as trcycles and mn buses are subsdzed. Gven the prce reform ndces, t s mportant to note that subsdes gven to most of tems ncluded n the sectors of transport and communcaton wll generate proportonately more benefts to the rch than to the poor. Ths wll engender a further ncrease n nequalty n Thaland. Thus, there s a clear need for the government to target

34 33 ts expendture more carefully on transport as well as communcaton sectors to mprove the welfare of the poor. References Atnson, A.B (970) On the measurement of nequalty Journal of Economc Theory, Vol 2, pp Fe, J., Rano, G. and Kuo, S. (978) Growth and famly dstrbuton of ncome by factor components, Quarterly Journal of Economcs XCII, pp.7-53 Kawan, N. (977) Measurement of Tax Progressvty: An Internatonal Comparson, Economc Journal, 87. Kawan, N. (980) Income Inequalty and Poverty: Methods of Estmaton and Polcy Applcatons, Oxford Unversty Press, New Yor. Kawan, N. (985) Measurement of Welfare wth applcatons to Australa, Journal of Development Economcs 8, pp Kawan, N. and Krongaew, M. (997) Poverty n Thaland: Defnng, Measurng and Analyzng, unpublshed mmeo. Lerman R. and Ytzha, S. (985) Income Inequalty Effects By Income Source: A New Approach and Applcatons to the Unted States, Revew of Economcs and Statstcs 67, pp.5-56 Lerman R. and Ytzha, S. (994) Effect of Margnal Changes n Income Sources on U.S. Income Inequalty, Publc Fnance Quarterly, Vol. 22 No. 4, pp Natonal Statstcal Offce (2000) Yearly Statstcal Boo, Thaland Pyatt, G., Chen, C. and Fe, J. (980) The Dstrbuton of ncome by factor components, Quarterly Journal of Economcs 94, pp Rawls, J. (972) A Theory of Justce, Oxford Unversty Press Rao, V.M. (969) Two decompostons of concentraton ratos, Journal of the Royal Statstcal Socety A 32, pp

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