Poverty and Inequality Analysis in a General Equilibrium Framework: The Representative Household Approach

Any analysis of the impact of major economic shocks (for example a significant change in the world price of a major export) on poverty and inequality requires an economy-wide framework that incorporates considerable detail on how households earn and spend their incomes. Figure 15.1 presents a simple schema delineating the links between households and the economic context within which they operate. The framework must incorporate the sorts of shocks that are of interest. Since most household income typically stems from production factors, the framework should capture the impact of shocks on the distribution of incomes across disaggregated factors (for example labor differentiated by skill, education, sex, region, and/or sector of employment; capital by type, sector and/or region; and land by region, type, and/or quality) — the “extended” functional distribution. It is important, not only to disaggregate the factors but also to capture the details of the operation of their markets. Finally, the framework must map from the extended functional distribution to household incomes with enough detail to provide information about the size distribution (the distribution of incomes across households), needed to compute poverty and inequality indices.