Incorporating Minimum Subsistence Consumption into International Comparisons of Real Income

Cross-country demand data are often consistent with the existence of a representative consumer with homothetic preferences. While homotheticity allows the construction of tight bounds to quantity indexes and their variance, it contradicts the biological reality that humans require minimum consumption of food, clothing, and shelter. This paper presents an approach for nonparametrically estimating bounds to utility from above-subsistence consumption. OECD data are used to show that homotheticity markedly compresses the real income distribution relative to what is found under the more general class of affine-homothetic preferences, and this has major consequences for estimates of convergence.