Udviklingsøkonomi - grundfag Lecture 13 Inequality and development: interconnections

Inequality and development in the long run Kuznet’s theory of ”inverted-U” –Sector shifts during development lead us to expect first rising, then falling inequality Can test based on the regressions See if b1 and b2 are significant and produce the inverse ”U”. Or use another functional form, that allows non-linearity. Conclusion: Inverse U pattern is found in cross-section data, but it does not survive the Latin-America dummy

Inequality and savings Savings and investment matter for growth If only rich save: concentration of wealth  savings & growth If others save: redistribution may  savings & growth –We need to look at savings rates across people –Focus on marginal savings rates because marginal income (potentially) is redistributed

Savings and income savings rates Hhold income Total savings 0 Marginal savings

A theory of the virtues of the middle classes The poor Subsistence needs Temporary ec. Problems - dissave Lack financial assets Lack realistic (small) investment options The middle classes Strive for prosperity, education, better housing Wish something better Means to save, access to banks The rich Show-off ”conspicuous” consumption (capital and import intensive luxury goods) No need for high (marginal) savings rates Can redistribution increase savings? –In very poor societies –In somewhat better-off places

Some conclusions History = the existing income distribution, matters High inequality, high poverty, low savings growth trap

Inequality and demand Composition of the demand for goods affects the composition of factor demand If for example the rich demand capital-intensive luxury items, this will boost the return to capital Engel curve Food share in budget income pc Trickle-down -happens if there is demand for the goods produced by the poor Depends on the participation of the poor in the economy

Inequality and credit markets Why can’t the poor acess credit? Problem of lenders 1.Can people repay? 2.Do people want to repay? – Two conditions can ensure repayment –Collateral (assets) –People value the future (informal enforcement can work) Both  poor tend to be excluded from credit markets What is the use of credit anyway? –Small production: inputs, capital goods –Education –Consumption (smoothing) Lack of credit can have large effects See Ray and whiteboard for a small model of occupational choice, credit constraints, and distribution