Subject: Bayesian Inference (Stat 805)

Assignment Title: Pareto Distribution

Power Distribution
Submitted To: Dr.Adil
Submitted By: Hira Mahmood
Roll no: 330869
 Pareto Distribution
Introduction:
The Pareto Distribution was named after Italian economist and sociologist Vilfredo Pareto. It is
sometimes referred to as the Pareto Principle or the 80-20 Rule. The Pareto Distribution is used
in describing social, scientific, and geophysical phenomena in society. Pareto created a
mathematical formula in the early 20th century that described the inequalities in wealth
distribution that existed in his native country of Italy.

The Pareto distribution is a continuous distribution with the probability density function (pdf):

f(x; α, β) = αβα / xα+ 1

For shape parameter α   > 0, and scale parameter β   > 0. If x < β  , the pdf is zero.

Mean:

αβ / (β - 1)

Variance:

βα2 / (β - 1)2 (β - 2)

Mode:

Practical Applications of the Pareto Distribution

 1. Business Management

One of the applications of the Pareto concept is in business management. A business may
observe that 20% of the effort dedicated to a specific business activity generates 80% of the
business results. A business can use this ratio to identify the most important segments that it can
focus on and thereby increase its efficiency.

For example, if marketing contributed to increased business results, the business can allocate
more time and resources to marketing activities to increase the company’s revenues and profits.

 
2. Company Revenues

The 80-20 Pareto rule may also apply in evaluating the source of the company revenues. For
example, when the company observes that 80% of reported annual revenues come from 20% of
its current customers, it can focus its attention on increasing the customer satisfaction of
influential customers.

From this observation, the company can also deduce that 80% of customer complaints come
from 20% of customers who form the bulk of its transactions. Also, focusing on solving the
complaints of 20% of its customers can increase the overall customer satisfaction of the
company. The company should focus on retaining 20% of its influential customers and on
acquiring new customers.

 3. Employee Evaluation

A company can also use the 80-20 rule to evaluate the performance of its employees. The
company may observe that 80% of its overall output is the direct result of about 20% of its
employees. Using the ratio, the company can focus on rewarding the 20% most productive
employees as a way of motivating them and encouraging the lower cluster of employees to work
harder. The productivity ratio could also show the company that 80% of human resource
problems are caused by 20% of the company’s employees.

 Limitations of the Pareto Distribution:

While the 80-20 Pareto distribution rule applies to many disciplines, it does not necessarily mean
that the input and output must be equal to 100%. For example, 20% of the company’s customers
could contribute 70% of the company’s revenues. The ratio brings a total of 90%. It shows that
the Pareto concept is merely an observation that suggests that the company should focus on
certain inputs more than others.

References:
 Pareto Distribution
 Weisstein, Eric W. "Pareto Distribution." From MathWorld--A Wolfram Web Resource.
 Handbook of Statistical Distributions with Applications, K Krishnamoorthy, ISBN 1-58488-635-8,
Chapter 23, pp 257 - 267. (Note the meaning of a and b is reversed in Wolfram and
Krishnamoorthy).
 Power distribution
Standard form of Power Distribution:
The shorthand X ∼ power(1,β) is used to indicate that the random variable X has the standard
power distribution with shape parameter β > 0. A standard power random variable X with
parameter β has probability density function

f(x) = β x β−1 0 < x < 1.

Properties of Power Distribution:

The cumulative distribution function on the support of X is

F(x) = P(X ≤ x) = x β 0<x<1

The survivor function on the support of X is

S(x) = P(X ≥ x) = 1- x β 0< x < 1

The hazard function on the support of X is

β −1
βx
h(x) = f(x) S(x) = β 0<x<1
1−x

The cumulative hazard function on the support of X is

H(x) = −lnS(x) = −ln(1− x β ) 0<x<1

β
Mean: E[X] = β+1

β
Variance: V[X] = ( β+2 ) ( β+1)2

1
1
Median: (2 ¿¿β

Applications:
 Distribution of income:The distribution of income is simply a statistical measure of how
many people earn or receive various amounts of income. However, people, including many
 economists, often mistakenly talk as if society is "distributing" income and people are
passively receiving it.
 Magnitude of earthquakes
 Size of cities according to population,
 Size of corporations,
 Trading volumes on the stock market,
 word frequencies : Estoup observed that the frequency with which words are used appears
to follow a Power law, and this observation was famously examined in depth and confirmed
by Zipf.

Relations with other Distributions:

1. Power distribution is related to a number of other distributions. Power distribution is

related to both Kumaraswamy distribution and pearson distribution in the sense that the
PDF of power distribution.
2. Power distribution is also related to Exponential power distribution, Exponential
distribution and Pareto distribution.