Estimating the Elasticity of Growth in the US Using the Generalized Means of Income

Abstract

Economic growth has been a key mantra to encourage poverty reduction in developing countries. Studies have shown that a one percent GDP growth can reduce absolute poverty, or increase the average income of the poorest quintile, by one percent or more in developing countries. The literature calls this relationship between poverty reduction and growth as growth elasticity. However, there is very little research available studying the extent of growth elasticity in a developed economy. I fill this vacuum in literature by applying the method of generalized means of income outlined in Foster and Szekely (2008) on micro-level data to estimate the elasticity of growth in the US. The generalized means of income satisfies all the axioms of a good income standard, which makes it a preferred method to measure the elasticity of growth. My analysis shows that most of the growth in the US is driven by the richer segment of the society. The ‘wealthier’ poor get some benefit from growth – a one percent increase in per-capita state-level income leads to about 0.9 percent increase in their income in the short and long-run. However, this relationship diminishes when I calculate the growth elasticity of those in deeper poverty. Sector-wise decomposition of income shows that the ‘wealthier’ poor benefits from an increase in the size of the service sector, but those in deeper poverty do not see this benefit.