Rabu, 23 Februari 2011

Taxation without Legislation - Part III

Over the past two weeks we have explored the allegation that inflation has a larger impact on lower income households than on upper income households.  For those of you that have been with us on this journey, you recall that we have explored the characteristics of households by income quintile and then examined how expenditures change as we move from one quintile to the next higher quintile.  (Remember, a quintile represents 20% of the population and you may think of income quintiles as lower class, lower-middle class, middle class, upper-middle class, and upper class households.)  We have made several observations and, if you need to refresh your memory, you are able to read past “Tips” on our blog: http://mufinancialtip.blogspot.com/

 

This week, we reach our conclusion.  To accomplish this, we will take the average percentage of total expenditures for each quintile to weight the rate of inflation for each category of goods for the 2010 calendar year.  Then, the weighted average rates of inflation for each quintile can be compared.  The US Government’s Bureau of Labor Statistics remains the source: http://www.bls.gov/cex/2009/Standard/quintile.pdf.

 

The percentage of total expenditures by income quintile is presented in last week’s Financial Tip.  Here, however, we need to present the average rate of inflation for 2010 for each category of expenditure.  As one may see in the table below, every category did not increase with inflation the same as every other category.  Inflation rates by category ranged from a minimum of decrease in the average price of Household Operations of 2.50% (-2.50%) to the greatest increase in prices for Tobacco Products and Smoking Supplies of 5.60%.  Two other categories saw their average prices decrease, Apparel and Services and the category of Entertainment.  All others increased in price, while we have recorded 0% increases for the items of Cash Contributions and Personal Insurance and Pensions.  The variation in price increases by category is precisely what makes this exercise interesting, if not fun, for those of us that earn our wages by trying to understand the American consumer.

 

Expenditure Category

2010 Rate of Inflation

Food

 

  Food at home

1.70%

  Food away from home

1.30%

Alcoholic beverages

1.00%

Housing

 

  Shelter

0.40%

  Utilities, fuels, and public services

1.80%

  Household operations

-2.50%

Apparel and services

-1.10%

Transportation

5.30%

Healthcare

3.00%

Entertainment

-0.80%

Personal care products and services

0.70%

Reading

3.50%

Education

1.30%

Tobacco products and smoking supplies

5.60%

Miscellaneous

2.20%

Cash Contributions

0.00%

Personal Insurance and Pensions

0.00%

Now, here is the punch line.  First, when rates of inflation are weighted by each quintile’s proportion of total expenditure, we see that the average rate of inflation for all consumer units was 1.32%.  Focusing on the rate which includes cash contributions and pensions we find that the average rate of inflation is less than the rate of inflation for each of the first four quintiles.  Only those in the top quintile have an average rate of inflation (1.15%) that is less than the overall average.  We find the greatest rate of inflation, based on the calculated budget shares and reported category rates of inflation to exist in the second lowest quintile (1.50%).  This second quintile is followed by the third quintile (1.45%), the lowest quintile (1.40%), the fourth highest quintile (1.39%), and then the highest quintile (1.15%).  However, the lowest quintile experienced a rate of inflation that was 21.7% greater ((1.4030/1.1526)-1) than the highest income quintile.  

 

 

All consumer units

Lowest 20 percent

Second 20 percent

Third 20 percent

Fourth 20 percent

Highest 20 percent

Rate of Inflation

1.3226%

1.4030%

1.4977%

1.4470%

1.3880%

1.1526%

 

What do we conclude for 2010?  Inflation had a lesser effect on the top quintile in 2010, than others in our population.  As such, it does “tax” those in the lower quintiles to a greater extent than our highest income citizens.   The differences exist due to the fact that we used average percentage expenditures by category to multiply times average rates of inflation per category, to calculate a weighted average. 

 

The best take home message is to be aware of differences that exist due to how you spend your money.  In fact, not spending your money is a great way to avoid paying any price (except for unanticipated inflation) and to save to reach your definition of financial success.

Kamis, 17 Februari 2011

Taxation without Legislation - Part II

Last week, in our exploration of the allegation that inflation has a larger impact on lower income households than on upper income households, we explored the characteristics of households by income quintile.  (Remember, a quintile represents 20% of the population and you may think of income quintiles as lower class, lower-middle class, middle class, upper-middle class, and upper class households.)  We made several conclusions and you are always able to review past “Tips” on our blog: http://mufinancialtip.blogspot.com/

 

This week, we will look at consumer expenditures by expenditure category, as well as the proportions of consumers’ budgets being spent on items, by those same income quintiles.  This has the advantage of both being the next step in calculating differing rates of inflation by households’ expenditure allocations and it provides interesting insights to our country, in its own right. 

 

We, again, turn to the US Government’s Bureau of Labor Statistics.  The source is: http://www.bls.gov/cex/2009/Standard/quintile.pdf.  We have reproduced two tables.  The first provides the average dollar expenditure in broad categories of expenditures.  (More detail is provided in the original source.)  We have also calculated a table for the average percent of total expenditures that each quintile, on average, spends on each expenditure category.   It appears at the end of this “Tip”.

 

We draw your attention to the following summaries and we will refrain from talking about expenditures increasing with income, as they do in all cases with the exception of education and tobacco products.  For education, the large number of students with lower incomes, who are in the lowest income quintile, results in greater educational expenses for the lowest quintile compared to the second lowest.  For tobacco, between both the second lowest and middle quintiles and the fourth quintile and the highest quintile we observe average expenditures on tobacco decreasing.  These are noted by being in red font on the following table.  Where you see red, the good is called “inferior” as consumption decreases as income increases.  In contrast, when expenditures increase with income, economists call the good a “normal” good.

 

Item

All consumer units

Lowest 20 percent

Second 20 percent

Third 20 percent

Fourth 20 percent

Highest 20 percent

Average annual expenditures

$49,067

$21,611

$31,382

$41,150

$56,879

$94,244

Average Income

$41,875

$9,956

$27,275

$45,199

$71,241

$149,951

 Food

 

 

 

 

 

 

  Food at home

$3,753

$2,463

$2,999

$3,355

$4,316

$5,629

  Food away from home

$2,619

$1,038

$1,569

$2,127

$3,206

$5,151

Alcoholic beverages

$435

$170

$250

$330

$541

$883

Housing

  Shelter

$10,075

$5,392

$6,807

$8,804

$11,173

$18,185

  Utilities, fuels, and public services

$3,645

$2,238

$3,069

$3,574

$4,172

$5,167

  Household operations

$3,176

$1,330

$1,953

$2,428

$3,508

$6,645

Apparel and services

$1,725

$873

$1,161

$1,402

$1,848

$3,339

Transportation

$7,658

$2,855

$5,078

$6,717

$9,525

$14,105

Healthcare

$3,126

$1,628

$2,491

$3,069

$3,762

$4,677

Entertainment

$2,693

$1,015

$1,668

$2,106

$3,197

$5,474

Personal care products and services

$596

$268

$397

$496

$650

$1,167

Reading

$110

$48

$72

$91

$119

$217

Education

$1,068

$573

$369

$548

$881

$2,966

Tobacco products and smoking supplies

$380

$303

$413

$400

$439

$342

Miscellaneous

$816

$323

$522

$756

$921

$1,558

Cash contributions

$1,723

$559

$868

$1,435

$1,949

$3,801

Personal insurance and pensions

$5,471

$534

$1,694

$3,512

$6,664

$14,937

 

With regard to the importance of the expenditure category to consumers’ budgets, it is instructive to consider the proportion of each quintile’s total expenditures that are allocated to each category.  (This table is presented at the end of this week’s Financial Tip.)  The greater the proportion, we know that either the households, on average, receive greater satisfaction (utility) from that category of good, or the greater the necessity of that category to their livelihood.  Importantly, the greater the proportion of households’ budgets spent on a category, the more inflation in that category can negatively affect their total consumption and, hence, their satisfaction from that consumption.  (Economists call this Cournot Aggregation but we’ll leave Mr. Cournot out of this week’s tip.  We might reintroduce him, however, next week.) 

 

Consider this one other way.  If we tax a category of consumption, thus raising its price, on whom would the burden of tax fall?  For example, if higher income quintiles spend a larger proportion of their greater expenditures on alcohol (which they do), the burden of the tax on alcohol would be greater on them, when we compare them to lower income households.  (Note1: Most of these budget shares would be much greater for lower income quintiles, if we used household income as our denominator, instead of household total expenditures.  This would change some of the trends we observe both today and in the conclusion we draw next week.  Note2: We mention “income elasticity” a few times, below.  If the average percentage change in expenditures by category between quintiles is greater than the percentage increase in total expenditures between categories, economists call the good a “luxury” good in that expenditure range.  While we do not present an income elasticity table, we will highlight (in purple) the column following the column where the expenditure elasticity was found to represent a luxury between that column and the one adjacent to its left.)

·         Food expenditures increase with income, across both food categories.  As a percentage of total expenditures, however, food at home decreases as income quintile total expenditures increase while food away from home (eating out) generally increases as total expenditures increase.

·         The proportion of total expenditures spent on both shelter and utilities decreases with increases in income quintile, while expenditures on household operations shows a U-shaped pattern – at first decreasing and then increasing.

·         Expenditures on apparel, as a percentage of total expenditures, decrease as we move from the lowest to the second highest quintile.  We observe that the proportion increases, however, as we move from the second highest to the highest quintile.  (Income elasticity, calculated between income quintiles, indicates that apparel is a luxury good between these two income quintiles.)

·         Expenditures on transportation increase as a percentage of total expenditures for the first four income quintiles, and then decreases as we move to the highest income quintile. (Transportation is a luxury good, as we move between the first four quintiles.)

·         Healthcare expenditures, as a percentage of income, increase between the first and second quintiles and then progressively decrease as we move to the highest quintile.  (It is only a luxury good as we move from the lowest to the second lowest quintile.)

·         In general, the proportion of total expenditures spent on entertainment increases with total expenditures, except for the middle income quintile.

·         Interestingly, for personal care and reading the expenditure proportions are quite similar between income quintiles.

·         Education expenditures are greater, as a percentage of total expenditures for both the lowest and highest income quintiles. This is no doubt a reflection of students, with lower incomes, being in the lowest income quintile, as well as the age and family size characteristics of the highest income quintile. (It is found to be a luxury good as we move between the top four income quintiles.)

·         Tobacco, as a percentage of total expenditures, shows a steady decrease in the share of total expenditures, as we increase income quintiles.

·         Cash contributions are, generally, an increasing percentage of total expenditures, as we move up the income quintile ladder. Calculated elasticities of income for cash contributions indicate that cash contributions increase faster than total expenditures (thus, a luxury good in these ranges) between the lowest quintile and the second quintile, the second quintile and the middle quintile, and the fourth and fifth quintiles.

·         Dramatically, the proportion of household budgets spent on insurance and pension deposits increases with income quintile.  Clearly this reflects greater demand for insurance from larger family sizes, as well as greater income with which to save for retirement and insure against loss of life, health, or property.  (Pensions and Personal Insurance are highly income elastic as income increases.)

 

We understand this is a lot of information.  It can be quite instructive to compare your expenditures to your “membership” income quintile.  Moreover, when we observe the categories of expenditures where we see greater levels of income elasticity – those in purple – we know that when the economy is in good times and incomes increase, these categories of expenditures will grow the fastest.  Similarly, in a downturn, they will decrease the fastest.

 

You, however, are the only one who can control how much you spend and how you decide to ratchet up/down your expenditures as your income changes.  It is a fact of financial success that, if you do not ratchet up as fast during the good years, it is much easier to reach your financial goals, given the inevitable lean years when you must ratchet down.  (The human species, especially our politicians, have trouble acting on this fact.) 

 

Item

All consumer units

Lowest 20 percent

Second 20 percent

Third 20 percent

Fourth 20 percent

Highest 20 percent

Average annual expenditures

$49,067

$21,611

$31,382

$41,150

$56,879

$94,244

Average Income

$41,875

$9,956

$27,275

$45,199

$71,241

$149,951

 Food

  Food at home

7.65%

11.40%

9.56%

8.15%

7.59%

5.97%

  Food away from home

5.34%

4.80%

5.00%

5.17%

5.64%

5.47%

Alcoholic beverages

0.89%

0.79%

0.80%

0.80%

0.95%

0.94%

Housing

 

 

 

 

 

 

  Shelter

20.53%

24.95%

21.69%

21.39%

19.65%

19.30%

  Utilities, fuels, and public services

7.43%

10.36%

9.78%

8.69%

7.34%

5.48%

  Household operations

6.47%

6.15%

6.22%

5.90%

6.17%

7.05%

Apparel and services

3.52%

4.04%

3.70%

3.41%

3.25%

3.54%

Transportation

15.61%

13.21%

16.18%

16.32%

16.75%

14.97%

Healthcare

6.37%

7.53%

7.94%

7.46%

6.61%

4.96%

Entertainment

5.49%

4.70%

5.32%

5.12%

5.62%

5.81%

Personal care products and services

1.21%

1.24%

1.27%

1.21%

1.14%

1.24%

Reading

0.22%

0.22%

0.23%

0.22%

0.21%

0.23%

Education

2.18%

2.65%

1.18%

1.33%

1.55%

3.15%

Tobacco products and smoking supplies

0.77%

1.40%

1.32%

0.97%

0.77%

0.36%

Miscellaneous

1.66%

1.49%

1.66%

1.84%

1.62%

1.65%

Cash contributions

3.51%

2.59%

2.77%

3.49%

3.43%

4.03%

Personal insurance and pensions

11.15%

2.47%

5.40%

8.53%

11.72%

15.85%