Fiscal consolidation programs and income inequality

ABSTRACT

We document a strong empirical relationship between higher income inequality and stronger recessive impacts of fiscal consolidation episodes across time and space. To explain this finding, we develop a life-cycle economy with uninsurable income risk. We calibrate our model to match key characteristics of several European economies, including inequality and fiscal structures, and study the effects of fiscal consolidation programs. In our model, higher income risk induces precautionary savings behavior, which decreases the proportion of credit-constrained agents in the economy. These agents have less elastic labor supply responses to fiscal consolidations, which explain the correlation with inequality in the data.

WITH

Holter, Hans A.,  University of Oslo

Malafry, Laurence, Potsdam Institute for Climate Impact Research

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About Authors

Francesco Franco

Executive Director

Francesco Franco has been teaching at Nova School of Business and Economics since 2004. He earned his PhD in Economics from the Massachussets Institute of Technology. His research interests include fluctuations and applied macroeconomics, topics on which he has published in Portuguese and international journals.

Pedro Brinca

Nova Faculty Affiliate

Pedro Brinca currently holds a position as an Assistant Professor (tenure-track) at NovaSBE and teaches Macroeconomics in the BSc’s in Economics and Business Administration. (...)

Miguel Ferreira

Affiliate

I am currently a PhD student at Nova School of Business and Economics. I have been visiting the economics department of the University of Cambridge since September 2017.