Inequality and Growth RevisitedRobert J. Barro

Presentation prepared by Levan Bzhalava

WARSAW UNIVERSITY

OutlineI. Measures of income inequality (Gini coefficient)II. Kuznets hypothesisIII. Previous Study (2000)IV. The present analysis (January 2008)V. Income-Inequality DataVI. Estimated Kuznets CurvesVII. Inequality as a Determinant of Economic GrowthVIII. Concluding ObservationsIX. Is Inequality Harmful for Growth?

I. Measures of income inequality

Gini coefficient - most prominently used as a measure of inequality of income distribution or inequality of wealth distribution. It is defined as a ratio with values between 0 and 1.

Gini = 1 perfect inequality Gini = 0 perfect equality

source: www.wikimedia.org

Gini Map 2008

source: www.wikimedia.org

II. Kuznets hypothesis

• Economic inequality increases over time, then at a critical point it begins to decrease

Kuznets Curve

• Why in poor countries economic growth increases inequality and in rich countries economic growth decreases inequality?

Why?

Kuznets Curve

Why?• Economic development-including shifts from

agriculture to industry and services and the adoption of new technologies-initially benefits mainly a minority of the population.

• As the new methods of production become widespread, the benefits from economic development are shared more evenly, and higher per capita GDP tends to reduce inequality.

III. Previous Study(Barro 2000) Inequality and Growth

• The effect of GDP on inequality inverse-U-shaped (as the Kuznets curve).

• Starting from a low value GDP - inequality• Relation flattened out at sufficiently high per capita GDP• Further increases tended to reduce inequality.

• Previous results confirmed the presence of the Kuznets curve across countries and over time.

(However, the curve did not explain a large fraction of the observed variation in income inequality)

IV. The present analysis

• Updates the previous cross-country research

Motives:• Globalization• International trade

V. Income-Inequality Data

• Previous study -World Bank’s Deininger and Squire (1996) data set

• The present work – World Income Inequality Database from May 2007 compiled by the United Nations (UN). (Better international information on income inequality)

The number of country observations: 54 - 1960s 77 - 1970s, 90 - 1980s, 120 - 1990s, 92 - 2000s

Income inequality for world averages 1960s - 2000s

The table considers three standard measures of income inequality: the Gini coefficient; the share of income going to the lowest quintile of the income distribution and; the share going to the highest quintile.

VI. Estimated Kuznets Curves

Estimated Kuznets Curves

Effect on the Gini coefficient • Positive from log (per capita GDP)• Negative from the square of the log (per capita GDP)• Positive from openness variable(more trade creates more income inequality)

VII. Inequality as a Determinant of Economic Growth

Cross-country growth regressions

Inequality as a Determinant of Economic Growth

• The Gini variable is significantly negative. • The impact of inequality on growth is most negative

for the poorest countries - the significantly positive coefficient of interaction term

• At higher per capita GDP effect of inequality on growth may become positive.“Inequality is bad for growth in poor countries and

good in rich countries”

De Gregorio and Lee (2004)

• Income inequality affects economic growth indirectly by influencing other determinants of growth

• Inequality raises fertility and lower secondary school enrollment and the rule of lawGreater income inequality would lower economic

growth

Not in De Gregorio and Lee (2004)• Higher income inequality leads to lower life expectancy

VIII. Concluding Observations

• Effects on inequality is positive from international openness.

But enhanced trade can lower poverty even if income inequality rises.

• Negative effect from income inequality on economic growth

VIII. Concluding Observations

• Effect of inequality on growth diminishes as per capita GDP rises and may be positive for the richest countries.

• Growth is encouraged by greater international openness, higher life expectancy, better rule of law, and lower fertility.

IX. Is Inequality Harmful for Growth?

Why do we care aboutinequality?

• Sociopolitical Instability In poor countries high Inequality generates sociopolitical conflict that are detrimental for growth

• Income redistribution and Credit-market failures More credit-constrained people means lower investment and growth In case of high inequality redistribution is necessary High redistribution may reduce incentives to accumulate - imply less growth

Sociopolitical Instability

“Good and Bad Inequalities”

• Good inequality increase incentives for innovation, entrepreneurship and economic growth.

• Bad inequality creates obstacles for poor people to receive education and to access credit, that impediment economic development

Supplementary sources• Martin Ravallion (2007), “Economic Growth is Not an Antipoverty Policy”, Development

Research Group World Bank. Conference: “Taking Action for the World’s Poor and Hungry People” www.ifpri.org/2020chinaconference/day1/presentations/B-2_MRavallion.ppt

• Lina Tolvaisaite, Katharina Maier, Tamara Tschentscher, “Income Inequality and Development” lehre.wiwi.hu-berlin.de/Professuren/vwl/fw/lehre/ws0607/.../income_inequality_and_development_seminar_20_11_2006.p

• Maria Ana Lugo, “Inequality and Human Development” University of Oxford hdr.undp.org/en/media/Inequality%20and%20Human%20Development,%20 • Inequality & Growth personal.rhul.ac.uk/ulte/108/EC1111/inequality&Growthlecture9.ppt • Humberto Lopez “Pro poor growth: A review of what we know (…and of what we don’t)” The

World Bank, PRMPR - www.nadel.ethz.ch/lehre/ppg_review.pdf • Dr. Haight - F2008. Income Inequality. Econ 112/212. Economic Development.

www.chaight.com/Wk%2012%20E112%20and%20212%20Income%20I... - • Gini Map - source: www.wikimedia.org• Photos sources: www.fotosearch.com/photos-images

Questions?