Jean-François Carpantier: jean-francois.carpantier[at]univ-amu.fr
Eric Girardin: eric.girardin[at]univ-amu.fr
Although the existence of a link between financial development and income inequality is generally accepted, the relationship between the two is neither theoretically unambiguous, nor empirically uniform. We make a case for distinguishing between the short- and long-term effects of finance on inequality and investigate the nexus in 21 OECD countries over the period 1870-2011. Whilst in the short-run an improvement in financial development tends to reduce inequality, in the long-run, more finance contributes to more inequality. The short-run effect is in line with theories advocating that financial development increases accessibility and availability of financial services, primarily for the poor. The long-run effect suggests that any short-term financial gains of the poor turn are ultimately overwhelmed by the financial gains of the wealthy. We estimate that the short-run effect becomes nil within a few years of a positive innovation to the level of financial development. Strikingly, the only variable to reduce inequality over the short- and long-run is education, which may in part be proxying for financial literacy. Results suggest that policies aimed at reducing inequality through improving access of the poor to finance need to be carefully designed to ensure longevity of impact.