Inequality, financial depth and impact on the current account

Working papers | 2015 | N 65

Abstract

This work analyzes whether the increase in inequality is associated with a deterioration, caeteris paribus, of the current account, discussing the role of the financial system in the interaction between these variables. At the same time, an attempt is made to determine whether these relationships are conditioned by the stage of development of the economy. Using a panel data of 29 countries for the period 1970-2011, our results confirm the need to distinguish between functional and personal income distribution. A greater share of wages in total income is associated with a deterioration in the current account. In particular, this effect seems to be stronger in the case of advanced economies than in developing countries. On the other hand, we do not find evidence regarding a relationship between personal income distribution and current account balance. This result contradicts what is suggested in recent literature, very focused on the case of the United States, where it is stated that the concentration of income at the upper end of the pyramid—the top incomes—has a strong negative relationship with the current account. These differences may be due to the fact that the relationship between income concentration and the external sector is mediated by various structural and idiosyncratic factors, resulting in the final effect may vary depending on the sample of countries used. Given the complexity of these relationships, we warn against generalizing results based only on the study of advanced economies to emerging economies.

JEL classification: C23, D31, D33, E44, F32, F41