Does inequality benefit growth? New evidence using a panel VAR approach

Abstract

Purpose This paper aims to investigate the dynamic relationship between economic growth and income inequality, an issue that has not found a clear consensus in the literature. Design/methodology/approach The paper uses a Panel VAR approach, using state-level data for Brazil, to assess the dynamic effects of inequality on economic growth and vice versa. Findings The paper shows that inequality shocks lead to higher economic growth, therefore supporting the view that, in poor countries, higher inequality does benefit economic growth. The paper also presents evidence that higher growth leads to lower income inequality. The results are robust to different inequality measures and when a measure of human capital accumulation is included in the estimation. Originality/value Recent evidence has favored the idea that higher inequality hurts economic growth. This paper shows that this might not be the case when the dynamic relationship between growth and inequality is examined in a developing country with high inequality and capital market imperfections.