Economic Growth and Income Inequality ... Evidence From China

money.jpgA newly published working paper from the Asian Developpement Bank (ADB) sets out to investigate the link between income inequality and economic growth taking China as an example. The paper suggests, in a Chinese context, that especially income inequality between rural and urban areas tend have a negative effect on GDP growth.

This pilot empirical study seeks to ascertain how income inequality affects growth by incorporating panel data information into a macroeconometric model. People’s Republic of China is used as the pilot fi eld. Provincial urban and rural household data are used to construct income inequality measures, which are then used to augment household consumption equations in a quarterly macroeconometric model. Model simulations are performed to study the inequality effect on gross domestic product growth and its sectoral components. Results show that income inequality forms robust explanatory variables of consumption and that the way inequality develops carries certain negative consequences on gross domestic product and sectoral growth.

Moving on to the conclusions the break-up of inequality operationalizations is also interesting ...

Through model simulations, we observe several interesting results. We fi nd that signifi cant changes in income inequality—whether within-urban, within-rural, or urban-rural—carry negative effects on macroeconomic stability as they cause consumption and then investment to undulate. Comparing the effects of shocking each of the urban and rural inequality measures, we find that increases in urban inequality carry more favorable (or less negative) effects to the macro economy than increases in rural inequality. In simulating the impact of changing urban-rural average income disparity, we see that GDP growth is highest in the long run when urban-rural income gap is narrowed (i.e., rural-favorable growth), as compared with the scenario where it is widened; and that the urban-favorable growth scenario (widening urban-rural gap) would only benefi t the industrial sector in the long run.