Economic Growth, Financial Development, and Income Inequality in BRICS Countries: Does Kuznets’ Inverted U-Shaped Curve Exist?

Abstract

This paper aims to examine the causal relationships between economic growth, financial development, and income inequality in BRICS countries, namely, Brazil, Russia, India, China, and South Africa, using annual panel data covering the period 1990–2015. We construct the financial development index for each country by applying the principal component method on the main four proxies of financial development, i.e., domestic credit provided by banking sector, domestic credit provided to private sector, broad money supply, and stock market capitalization. Our empirical findings provide evidence supporting Kuznets’ inverted U-shaped hypothesis on economic growth and income inequality linkage. We find that the linear term of per capita GDP growth has positive sign and squared term has negative sign and statistically significant at the 1% significance level in all specifications. Moreover, our findings lend support for Kuznets’ inverted U-shaped relationship between financial development and income inequality. We find that the linear terms of all financial development proxies have positive signs and squared terms have negative signs and statistically significant at the 5% significance level in all specifications. Further, the Granger causality test results confirm a unidirectional causality running from all financial development proxies to income inequality and a bidirectional causal relationship between inflation and income inequality is found, while a unidirectional causality running from income inequality to economic growth is found, indicating that income inequality negatively affects economic growth in BRICS countries.