Drivers of Income Growth Inequality
The corresponding academic paper by Hakan Yilmazkuday is available as a working paper here.
Abstract
Economic globalization after the Second World War due to increasing cross-border economic activity as well as increasing trade and financial linkages has resulted in increasing spillovers across countries. Especially in the lack of an international (macroeconomic) policy coordination, this may lead into countries having different income measures and thus increasing inequality across countries. Accordingly, concerns are raised about whether development will reach all countries, or it will remain restricted to only some countries.
Within this background, this paper investigates the drivers of global income growth inequality (across countries), where contributions of other global inequality measures are compared in search for an international policy coordination that can reduce the global income growth inequality. The motivation is based on the literature of synchronization across countries, where fiscal policy, monetary policy, international trade linkages, and financial developments have all been shown to be effective.
Based on this literature, we consider the global inequality (across countries) of the following variables in our empirical investigation to understand the drivers of global income growth inequality: government size (representing fiscal policies), financial depth (representing financial policies), international trade (representing trade policies), and inflation (representing monetary policies). Our investigation is based on a structural vector autoregression (SVAR) model during the annual period over 1980-2020, where the global inequality measures are based on 45 countries. The estimation results are used to identify the reaction and variance decomposition (over time) of the global income growth inequality due to the shocks in other global inequality measures.
The empirical results based on cumulative impulses suggest that a one standard deviation shock to the global fiscal inequality increases the global income growth inequality by 1.04 points, a one standard deviation shock to the global finance inequality increases the global income growth inequality by 0.42 points, a one standard deviation shock to the global inflation inequality increases the global income growth inequality by 0.41 points, and a one standard deviation shock to the global trade inequality increases the global income growth inequality by 0.28 points.
Similarly, the empirical results based on forecast error variance decompositions suggest that the volatility of the global income growth inequality (over time) is explained the most by the global fiscal inequality (46%), followed by the global finance inequality (7%), the global trade inequality (6%) and the global inflation inequality (5%).
It is implied that the global fiscal inequality is the main driver of the global income growth inequality. Regarding policy implications, an international policy coordination in terms of fiscal policy is essential to reduce the global income growth inequality, although other international policy coordination in terms of monetary, financial, and trade policies can also be used with relatively less (but significant) effects.
Overall, this paper contributes to the literature as it (i) focuses on the interaction between global inequality measures with a focus on the global income growth inequality, (ii) uses a SVAR model that is robust to the consideration of endogeneity by construction, (iii) identifies the effects of alternative global inequality measures on the global income growth inequality, and (iv) decomposes the volatility of global income growth inequality (over time) into those explained by other global inequality measures and shows that the global fiscal inequality is the main driver of the global income growth inequality.