Indian Council for Research on International Economic Relations

Seminar Details

09 May 2006

Rural Income Volatility and Inequality in China
John Whalley
May 9, 2006
Much of current poverty debate in China focuses on the growing urban-rural income gap (the ratio of mean urban to rural incomes). Available data indicates a significant increase from around 1.8 in the late 1980s to over 3 today, but these estimates do not take into account the higher volatility of rural incomes in China. Current literature based analyses of rural income volatility decompose poverty into chronic and transient components using longitudinal survey data and assesses the fraction of the Foster, Greer and Thorbecke poverty gap which is attributable to mean income over time being below the poverty line. Resulting estimates of 40 50 % transient poverty point to the policy conclusion that poverty may be a less serious social problem than it appears in annual data due to rural income volatility. Here we use a direct method to adjust rural income for volatility using a certainty equivalent income measure and recomputed the urban-rural income gap. Since an uncertain income stream is worth less in utility terms than a certain income stream we argue that heightened rural volatility increases the effective urban-rural income gap and intensifies not weakens poverty concerns. Using Chinese longitudinal rural survey data for which current decompositions can be replicated, we make adjustments for certainty equivalence of rural household income streams which not only widen the urban-rural income gap in China but also increases other distributional summary statistics. Depending upon values used for the coefficient of relative risk aversion, the measured urban-rural income gap increases by 20 30% using a certainty equivalent measure to adjust rural incomes for volatility.
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