Working Paper 2014-331
This paper contributes to the debate over the relationship between inequality and inclusive growth by testing the proposition of a kinked-non linear relationship between income inequality and economic growth in a country specific context. The proposition is first confirmed with a wide panel dataset of 138 countries, using the Kuznets hypothesis as a vehicle of validation. Then, the non linearity is contrasted for the Mexican economy using a highly disaggregated dataset at the municipal level. An inverted “U” shaped relationship is demonstrated, showing that low levels of inequality exert a positive correlation with economic growth, while high levels have a negative one. Additionally, and more importantly, it is demonstrated the existence of an optimal rate of inequality (ORI) that maximizes growth rates and releases the economy from any distortion generated by elevated inequality or taxation. It is confirmed that inequality does matter for growth, governments that wish to promote economic growth should incorporate redistributive policies not only as a part of the social agenda but as an important element of the growth strategy.
Authors: Jorge Alberto Charles Coll.