Equivalisation is a standard methodology that adjusts household income to account for different demands on resources, by considering the household size and composition. The purpose of this chapter is to show the impact of using this methodology on Living Costs and Food Survey (LCF) data. This is the only chapter that presents equivalised income data; other tables included in Family Spending are available on an equivalised income basis on request from the Office for National Statistics (ONS) (see ‘About this edition of Family Spending’).
When the incomes of households are compared, income is often adjusted in order to take different demands on resources into account. Household size is an important factor to consider because larger households usually need a higher income than smaller households in order to achieve a comparable standard of living. The composition of a household also affects resource needs, for example living costs for adults are normally higher than those for children.
Equivalisation scales are used to adjust household income in such a way that both household size and composition are taken into account. There are various scales available, which differ in their complexity and methodology. For example, the Organisation for Economic Cooperation and Development (OECD) modified equivalence scale is used widely across Europe: it adjusts household income to reflect the different resource needs of single adults, any additional adults in the household, and children in various age groups.
The OECD-modified equivalence scale is the standard scale for the Statistical Office of the European Union (EUROSTAT) and several government departments in the UK use it for key household income statistics. For example, the Department for Work and Pensions (DWP) use the OECD-modified scale for their Households Below Average Income (HBAI) publication and ONS use it for the Effects of Taxes and Benefits on Household Income (ETB) analysis.
To calculate equivalised income using the OECD-modified equivalence scale, each member of the household is first given an equivalence value. The OECD-modified equivalence values are shown in Table 3A. Single adult households are taken as the reference group and are given a value of one. For larger households, each additional adult is given a smaller value of 0.5 to reflect the economies of scale achieved when people live together. Economies of scale arise when households share resources such as water and electricity, which reduces the living costs per person. Children under the age of 14 are given a value of 0.3 to take account of their lower living costs while children aged 14 and over are given a value of 0.5 because their living costs are assumed to be the same as those of an adult.
|Type of Household Member||Equivalence value|
|Child aged: 14 and over||0.5|
|Child aged: 0-13||0.3|
In the next stage of the calculation, the equivalence values for each household member are summed to give a total equivalence number for the household. For example, the total equivalence value for a household containing a married couple with two children aged 10 and 14 is calculated as follows:
1 (first adult) + 0.5 (second adult) + 0.5 (14-year-old child) + 0.3 (10-year-old child) = 2.3
The total equivalence value of 2.3 shows that the household needs more than twice the income of a single adult household in order to achieve a comparable standard of living.
In the final step of the calculation the total income for the household is divided by the equivalence value. For example, if the household described in the example above has an annual income of £30,000, their equivalised income is calculated as follows:
£30,000/2.3 = £13,043
For a single adult household with an actual income of £30,000 the equivalised income remains at £30,000, because the equivalence value for this household is equal to one. This demonstrates that a single adult household will have a higher standard of living than a larger household with the same level of income.
Equivalised household incomes were calculated for each household using the OECD-modified equivalence scale. Household equivalised incomes were then ranked in ascending order and divided into ten equally sized (decile) groups, with households having the lowest equivalised income in the first decile group. Gross (non-equivalised) income data are presented in
Tables 3.1 (43 Kb Excel sheet)
3.12 (68 Kb Excel sheet)
; equivalised gross income data based on the OECD-modified scale are shown in
Tables 3.2E (76.5 Kb Excel sheet)
3.12E (67 Kb Excel sheet)
The income decile groups can be seen in Table 3B.
|Income Decile||Gross weekly income||Gross weekly equivalised income (OECD-modified scale)|
|1||Up to £172||Up to £140|
|2||£173 to £255||£141 to £190|
|3||£256 to £340||£191 to £237|
|4||£341 to £435||£238 to £285|
|5||£436 to £555||£286 to £346|
|6||£556 to £679||£347 to £415|
|7||£680 to £833||£416 to £506|
|8||£834 to £1,043||£507 to £620|
|9||£1,044 to £1,404||£621 to £817|
|10||£1,405 and over||£818 and over|
Table 3.1 (43 Kb Excel sheet)
shows the household composition of the gross (non-equivalised) income decile groups and the OECD-equivalised income decile groups. Equivalisation has a large impact on those groups of households containing one adult without children. The effects of equivalisation were particularly noticeable for households containing one retired adult. These households accounted for just under two-fifths (37 per cent) of households in the lowest gross income decile group but when income was equivalised they accounted for only 14 per cent of the lowest income group. These households tended to move to a higher income decile group after income was equivalised. For example, households containing one retired adult made up 8 per cent of the fifth gross income decile group, but after income was equivalised this group accounted for 14 per cent of the fifth decile group, which was due to households moving up the income distribution. Households containing one non-retired adult also moved up the income distribution after income was equivalised. These results demonstrate that when equivalisation is used to look at the incomes of all households on a comparable basis, single adult households are better off than they might have appeared pre-equivalisation.
Table 3.1 (43 Kb Excel sheet) also shows how equivalisation affects the average household size for each income decile group. As gross income increases the average number of people in each household also increases: the average household size for the highest income group (3.1 people) was almost two and a half times that of the lowest income group (1.3 people). After income was equivalised, the average number of people in each household was more similar for each income decile group, with the average varying between 2.1 and 2.6. This pattern of results occurs because the equivalisation process scales up the income of households containing one adult (relative to other households) and scales down the income of households with more people.
Figures 3.1 and 3.1E show the percentage of households with children in each income group before and after income equivalisation. As gross income increases, the proportion of households with children generally increases: from 13 per cent of households in the bottom gross income decile group to 44 per cent in the top gross income decile group. After equivalisation the pattern of results is more complex. The percentage of households with children decreases from 34 per cent in the bottom income decile group to 24 per cent in the third income group before rising back up to 34 per cent in the fifth income group. After the fifth income decile, the proportion of households with children in each decile continues to be variable with the percentage varying between 22 and 30 per cent. These results demonstrate how factoring in living costs for children as part of the equivalisation process can bring about large changes in the income distribution.
The proportion of households containing at least one retired person by income decile group before and after income equivalisation is shown in Figures 3.2 and 3.2E. Equivalisation has a large effect on the proportion of retired households in the lowest income decile group. Retired households accounted for just under two-fifths (38 per cent) of households in the bottom gross income group but after equivalisation they accounted for only 19 per cent of households in the bottom income group. This result can largely be explained by the fact that a relatively high proportion of retired households contain only one adult and, as explained above, the incomes of single adult households are scaled up (relative to other households) when income is equivalised. The proportion of retired households in the second lowest income decile also decreased after equivalisation, although the effect was much smaller. The opposite was true of the higher income decile groups; the proportion of retired households increased slightly after income was equivalised.
Tables 3.2 (90 Kb Excel sheet)
3.2E (76.5 Kb Excel sheet)
show expenditure, in total and for each of the Classification of Individual COnsumption by Purpose (COICOP) categories, by gross and equivalised income decile groups respectively. As incomes increase with both measures of income, total expenditure also increased, although the gap in spending between the top and the bottom income group was slightly smaller when the equivalised income measure was used. Households in the top gross income decile group spent an average of £1,010.20 per week; just over five and a half times that of households in the bottom gross income group (£177.10). In comparison, the top equivalised income group spent £940.90 per week, which was just over four times higher than that of the lowest equivalised income group (£229.00). For each COICOP category spending rose consistently with income, although as with total expenditure, the difference in spending between the top and the bottom income groups tended to be smaller when looking at equivalised income.
For most COICOP categories, expenditure in the lower part of the income distribution was lower for the gross income decile groups than for the corresponding equivalised income groups. The opposite was true for the higher income decile groups. Therefore equivalisation flattens the distribution of household expenditure. This pattern of results can be illustrated using the examples of expenditure on food and non-alcoholic drinks, and on clothing and footwear. As shown in Figure 3.3, average weekly expenditure on food and non-alcoholic drinks for the bottom gross income group was £29.20 compared with £37.30 for the bottom equivalised income group. Spending was also higher for the equivalised income groups than for the gross income groups in the next deciles, from the second decile group (the second lowest) up to the sixth. For the top three decile groups spending was higher in the gross income groups than the equivalised income group. For the top income group, for example, the average weekly spend on food and non-alcoholic drinks was £84.80 per week compared with £72.10 for the top equivalised income group. Figure 3.4 shows that the pattern of results was similar for expenditure on clothing and footwear.
Tables 3.3 (82.5 Kb Excel sheet) and Table 3.3E (63 Kb Excel sheet) show the share of total expenditure on each COICOP category, by gross income group and equivalised income group respectively. There was notable variation in spending with income for some COICOP categories. As shown in Figure 3.5, the proportion of total expenditure spent on food and non-alcoholic drinks, and on housing, fuel and power, when these categories are combined, decreased steadily as equivalised income increased. Spending on these categories combined accounted for just under two-fifths (36 per cent) of total expenditure for the bottom equivalised income decile group, compared with just under a fifth (16 per cent) for households in the top equivalised income decile group. In contrast, the proportion of total expenditure spent on transport increased slightly with equivalised income, from 9 per cent for the lowest decile group to 15 per cent in the highest income group. The pattern of results was similar when looking at spending by gross (unequivalised) income group.
This section describes the effect that equivalisation has when looking at the expenditure in the income quintile groups of different household types (see
Tables 3.4 (82.5 Kb Excel sheet)
3.11 (83.5 Kb Excel sheet)
Tables 3.4E (90.5 Kb Excel sheet)
3.11E (90.5 Kb Excel sheet)
). The analysis focuses on one and two adult households, with and without children. It should be noted that the sample for some groups, particularly retired households who are mainly dependent on the state pension, contain a small number of households and the results should therefore be treated with caution.
Equivalisation had a large impact on households containing one adult without children (see Tables 3.4 (82.5 Kb Excel sheet) , 3.5 (82 Kb Excel sheet) , 3.4E (90.5 Kb Excel sheet) , and 3.5E (91.5 Kb Excel sheet) ). Expenditure for each income quintile group decreased after equivalisation and the effect was greatest for the highest income groups. This effect is due to the movements between income groups before and after equivalisation, as discussed earlier in the chapter. This was particularly noticeable for households containing one non-retired adult. Among these households, total expenditure was £183.90 for the bottom gross income group but after equivalisation total expenditure fell to £161.90 for this group. Equivalisation had a much larger impact on households in the higher income quintile groups; total expenditure for households containing one non-retired adult in the top gross income quintile was £763.70 compared with £529.40 for the top equivalised income group.
Equivalisation had the opposite effect on expenditure for two adult households with children ( Tables 3.6 (80 Kb Excel sheet) and 3.6E (99 Kb Excel sheet) ). Expenditure for households containing two adults with children increased from £288.80 for the lowest gross income group to £361.00 after income was equivalised. There was a similar increase in expenditure after income was equivalised for each of the remaining quintiles.
Tables 3.12 (68 Kb Excel sheet)
3.12E (67 Kb Excel sheet)
, and Figures 3.6 and 3.6E show the breakdown of income sources for each income quintile, by gross household income and equivalised household income respectively. For both measures of income, the proportion of income obtained from self employment increased for higher income groups. Similarly, the proportion of income from wages and salaries also increased.
Equivalisation mainly affected the distribution of income sources for the lowest income quintile groups. Annuities and pensions made up 10 per cent of the income received by households in the lowest gross income quintile groups, but after income was equivalised this income source accounted for only 5 per cent of total income received by the lowest income group. In contrast, the proportion of total income provided by wages and salaries increased after equivalisation. Among households in the bottom gross income quintile, 9 per cent of income came from salaries and wages compared with 16 per cent for households in the lowest equivalised income quintile. These results largely reflect the fact that after income was equivalised, the lowest quintile groups contained fewer pensioner households and more working households.
Traditionally, analyses of economic well-being have focussed on a single dimension of household economic resources. In many developed countries, such studies have generally used income data, reflecting the relative frequency with which data on income are available. For many households, income is their most important economic resource for meeting everyday living expenses. However, the consumption of goods and services (reflected by expenditure) is pivotal in meeting a household's requirements, and it is argued that income and expenditure together represent a more important determinant of economic well-being than income alone.
Households can smooth expenditure by, for example adjusting savings, drawing on wealth and borrowing. Conversely, incomes may be more volatile, a finding that led to Friedman’s ‘permanent income hypothesis’, which suggests that decisions made by consumers are based on long-term income expectations rather than their current income. Therefore, because expenditures fluctuate less than incomes, they can be considered a better proxy of living standards. This view is supported in a number of studies for example (Cutler & Katz, 1991) and (Jorgenson & Slesnick, 1987) which find stronger relationships between consumption and subjective well-being than between income and subjective well-being measures.
The Commission on the Measurement of Economic Performance and Social Progress (Stiglitz, Sen & Fitoussi, 2009) recommended that greater prominence be given to the distributions of both income and expenditure across households and, furthermore, that it is desirable to have information on the joint distribution of these dimensions. That is, the complex nature of household economic well-being means it is better understood by looking simultaneously at household income and consumption expenditure.
For given levels of expenditure, and everything else being equal, people with higher income can be regarded as having a higher level of economic well-being than people with lower income. With higher income, they have greater opportunity to increase expenditure now, if desired, or to save income that might be used to finance expenditure in the future.
In light of this context, this article examines how expenditure varies with income.
Table 3.1 to 3.12E can be accessed using the links on this page.
Table 3.5E Expenditure of one person retired households not mainly dependent on state pensions by gross equivalised income quintile group (OECD-modified scale), 2011 United Kingdom (91.5 Kb Excel sheet)
Table 3.11E Expenditure of two adult retired households not mainly dependent on state pensions by gross equivalised income quintile group (OECD-modified scale), 2011 United Kingdom (90.5 Kb Excel sheet)
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