Measuring Inequality - The Palma Ratio

The Palma Ratio measures ratio of the richest 10% of the population’s share of national income divided by the poorest 40%’s share.

Many students will be familiar with the Gini coefficient as a measure of inequality – the coefficient is calculated after constructing a Lorenz Curve for the distribution of income or wealth.

The Palma ratio is an alternative to the Gini index, and focuses on the differences between those in the top and bottom income brackets

The Palma Ratio is an alternative measure of income or wealth inequality that focuses on the relative income shares of the top and bottom segments of the population. It was proposed by economist Alex Cobham in 2010 as a complement to the Gini coefficient.

The Palma Ratio compares the income or wealth share of the top 10% of the population (the richest) to the income or wealth share of the bottom 40% of the population (the poorest). The ratio is named after Chilean economist Gabriel Palma, who inspired its development.

Here's how the Palma Ratio is calculated:

1. The top 10% income or wealth share: This represents the proportion of total income or wealth held by the top 10% of the population.
2. The bottom 40% income or wealth share: This represents the proportion of total income or wealth held by the bottom 40% of the population.
3. The Palma Ratio: It is calculated by dividing the income or wealth share of the top 10% by the income or wealth share of the bottom 40%.

Mathematically, the Palma Ratio (P) is expressed as:

P = (Top 10% Share / Bottom 40% Share)

The Palma Ratio provides a simple and intuitive measure of income or wealth inequality by focusing on the extremes of the income or wealth distribution. It emphasizes the relative difference between the richest and poorest segments of the population and allows for a clearer assessment of how income or wealth is distributed across society.

Interpreting the Palma Ratio:

• Palma Ratio less than 1: Indicates that the bottom 40% of the population holds a larger share of income or wealth than the top 10%.
• Palma Ratio equal to 1: Implies that the bottom 40% and top 10% hold an equal share of income or wealth.
• Palma Ratio greater than 1: Suggests that the top 10% of the population holds a larger share of income or wealth compared to the bottom 40%.

The Palma Ratio provides a useful complementary perspective to the Gini coefficient in understanding income or wealth inequality within a population. However, it's important to note that both measures have their limitations and should be used in conjunction with other indicators for a more comprehensive assessment of inequality.

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