OECD SOCIAL, EMPLOYMENT AND MIGRATION WORKING PAPERS No. 163 - TRENDS IN INCOME INEQUALITY AND ITS IMPACT ON ECONOMIC GROWTH

20141209 - ABSTRACT

1. In most OECD countries, the gap between rich and poor is at its highest level since 30 years.
Today, the richest 10 per cent of the population in the OECD area earn 9.5 times the income of the poorest
10 per cent; in the 1980s this ratio stood at 7:1 and has been rising continuously ever since. However, the
rise in overall income inequality is not (only) about surging top income shares: often, incomes at the
bottom grew much slower during the prosperous years and fell during downturns, putting relative (and in
some countries, absolute) income poverty on the radar of policy concerns. This paper explores whether
such developments may have an impact on economic performance.

2. Drawing on harmonised data covering the OECD countries over the past 30 years, the
econometric analysis suggests that income inequality has a negative and statistically significant impact on
subsequent growth. In particular, what matters most is the gap between low income households and the rest
of the population. In contrast, no evidence is found that those with high incomes pulling away from the rest
of the population harms growth. The paper also evaluates the “human capital accumulation theory” finding
evidence for human capital as a channel through which inequality may affect growth. Analysis based on
micro data from the Adult Skills Survey (PIAAC) shows that increased income disparities depress skills
development among individuals with poorer parental education background, both in terms of the quantity
of education attained (e.g. years of schooling), and in terms of its quality (i.e. skill proficiency).
Educational outcomes of individuals from richer backgrounds, however, are not affected by inequality.

3. It follows that policies to reduce income inequalities should not only be pursued to improve
social outcomes but also to sustain long-term growth. Redistribution policies via taxes and transfers are a
key tool to ensure the benefits of growth are more broadly distributed and the results suggest they need not
be expected to undermine growth. But it is also important to promote equality of opportunity in access to
and quality of education. This implies a focus on families with children and youths – as this is when
decisions about human capital accumulation are made -- promoting employment for disadvantaged groups
through active labour market policies, childcare supports and in-work benefits.

Note LT: the famous book of Piketty (Capital) is not mentioned in the bibliography of this report!; Methodology: measurement of inequality with the use of Gini.
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