Abstract
This paper looks at the influence of financial deepening (private bank credit) on income inequality in developed economies. Building on a model of financially open economies (Kunieda et al. (Macroecon Dyn 18:1091–1128, 2014)), defining its endogenous economic growth rate, and extending its implications also for top income shares, it is shown that the impact of bank credit on inequality depends on the gap between the real interest rate and the GDP growth rate (‘r-g’). This finding is robustly confirmed by the empirical analysis on a few samples of OECD and EU countries, both for the Gini index and for top income shares. Both the econometric evidence and simple evidence show that the presence of this type of non-linearity (an interaction between financial deepening and r-g) is likely to be one of the reasons for the mixed results that may be found in the empirical literature on the relationship between the financial deepening and income inequality.
Highlights
In many developed economies, income inequality has increased sharply during the recent decades
This paper considers the contribution of financial deepening to income inequality in developed economies, stressing the importance of its interaction with the difference between the interest rate (r ) and the gross domestic product (GDP) growth rate (g)
Concentrating on bank credit that is presumably less inequality-inducing than market-based financing, this paper explores whether the ambiguity of these findings is related to the influence of the difference between the real interest rate and the GDP growth rate, which we show to be predicted by Kunieda et al (2014) theoretical model due to the presence of certain non-linearity
Summary
We thank the reviewers for useful comments with the usual disclaimer. The opinions expressed are those of the authors only and should not be considered as representative of the European Commission’s official position.
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