ChainWhat it assumes · how to break it
Start
World oil and energy prices rise sharply, as in 2022 after Russia's invasion of Ukraine, pushing up petrol, heating and food prices.
1
As a result, household energy bills and petrol prices rise, and food prices rise as transport and fertiliser costs increase.
cost-push inflation
cost-push inflation
Assumes: Firms pass the higher energy costs into the prices of essentials.
But: Supermarkets competing hard on price may absorb part of the rise in the short run.
2
Since energy and food are necessities with low income elasticity of demand, they take up a larger share of spending for low-income households than for high-income households.
necessity · income elasticity of demand (YED)
necessity · income elasticity of demand (YED)
Assumes: Poorer households spend a larger share of income on energy and food.
But: Rich households with large homes and several cars may spend more in pounds on energy, though a smaller share of their income.
3
This means the rise in the cost of living is greater for poorer households, so their real incomes fall by a larger proportion.
real income · regressive effect
real income · regressive effect
Best link to attack
Assumes: Incomes and benefits do not rise to compensate.
Assumes: Incomes and benefits do not rise to compensate.
But: If benefits and the state pension are uprated with inflation, the poorest households' incomes catch up, though with a delay.
4
Therefore, the gap in real living standards between rich and poor widens, and more households fall into fuel poverty.
income inequality · fuel poverty
income inequality · fuel poverty
Assumes: Poorer households cannot cut their energy use without hardship.
But: Some households can reduce use by insulating homes or switching tariffs, though the poorest are least able to afford insulation.
End
Inequality in real incomes widens because the price rise hits poorer households hardest.
Evaluation chain
- E1However, how far inequality widens depends on whether incomes and benefits rise to compensate poorer households.
- E2When the government targets support at low-income households, through cost-of-living payments or uprating benefits with inflation, then their real incomes are protected.
- E3As a result, the regressive effect of the price rise is reduced, although a universal energy price cap gives more support in pounds to large energy users, who are often better off.
- E4So the impact on inequality depends more on how the government responds than on the oil price itself.
Another way to attack it: Owners of oil and energy companies gain from higher profits, and these shareholders are mostly better-off households, which widens inequality further. A windfall tax used to fund targeted support can reverse part of this.
Can you say this chain from memory?
Members can hide the links, test themselves and track which chains they have mastered.
Practise this chainMembers can hide the links, test themselves and track which chains they have mastered.
Questions this answers
- Assess the impact of higher energy prices on income inequality.
- Explain why inflation caused by rising energy prices may affect low-income households more than high-income households.
- Discuss whether governments should give targeted or universal support when energy prices rise sharply.
Diagram
No standard diagram. Use data on the share of household spending on energy by income group, or a Lorenz curve moving away from the line of equality.
Reverse and related
Fall in world oil prices → essentials become cheaper, so poorer households' real incomes rise by a larger proportion and inequality narrows.