Availability of financial services and income inequality: The evidence from many countries

doi:10.1016/j.ememar.2010.07.001

Emerging Markets Review

Volume 11, Issue 4, December 2010, Pages 404-408

https://doi.org/10.1016/j.ememar.2010.07.001 Get rights and content

Abstract

Using a sample of developed and developing countries this study empirically gauges the impact of the availability of financial services, as measured by the number of bank branches per 100,000 populations on income inequality. The results show that greater access to bank branches robustly reduces income inequality across countries. The study also documents that barriers to bank access significantly increases income inequality.

Introduction

While a voluminous extant literature has documented a strong link from financial development to economic growth, as summarized in Porta et al., 1997, Levine, 1997, a relatively small group of recent studies have explored the important nexus between financial development and income inequality (Levine, 2007, Beck et al., 2007; and Clark, Xu and Zou (2006)).

All of these studies clearly document a statistically significant improvement in income inequality, as measured by a country's Gini coefficient and aggregate measure of financial development, typically proxied by some aggregate measure of financial development such as credit to the private sector by financial intermediaries, usually referred to as ‘private credit’.

This has led to a growing policy consensus that financial development can benefit the poor (Rajan and Zingales, 2003, Levine, 2007, Akhter and Daly, 2009).

The importance of financial development in mitigating income inequality can be traced to the earlier theoretical works of Galor and Zeira, 1993, Banerjee and Newman, 1993. Both set of papers show a negative relationship between financial sector development and income inequality in the face of lumpy investment and imperfections in the financial sector. However Greenwood and Jovanovic (1990) argue for a more complicated non-linear (inverted u-shaped) relationship between financial development and income inequality. They show that initially the rich benefit from financial development, but, over time as more people have access to the financial system income inequality declines.¹ More recent work by Classens and Perotti (2007) and the World Bank (2007) provide a more detailed and nuanced discussion of the important embedded role of finance and specifically access to finance and its effects in mitigating income inequality in the process of development.

Empirical evidence on the role of financial access in mitigating income inequality is however limited (World Bank, 2007). As a result, and unlike earlier studies, we employ a more micro focused measure as a proxy for financial development and access to financial services, which better captures how financial development potentially impacts income inequality. This measure is discussed in more detail in the next section.

Based on the above discussion this paper attempts to empirically gauge the relationship between financial development and income inequality for a sample of developing and developed countries. Section 2 presents a short discussion of the extant theoretical and burgeoning empirical literature on the relationship between financial access and inequality. Section 3 discusses the data and the model(s) to be estimated. Section 4 contains a discussion of the empirical results. Finally, Section 5 contains some concluding remarks.

Section snippets

Finance and inequality

The vast majority of the extant literature on finance and growth has focused on the size of the financial sector and its impact on growth and inequality, a relatively macro perspective. This literature is usefully summarized by Levine (2005). Only recently has a smaller subset of this literature focused on the link between financial access – a more micro perspective – and its effects on inequality. That access to financial services is still very uneven, especially in developing and emerging

Data

To measure the degree of income inequality this study uses Gini coefficient data from the UN-Wider data set, for seventy developing and developed countries. Because the study uses cross sectional analysis, the Gini coefficient data for each country is the average over the period 2000–2005.²

To proxy financial development the study uses data on the availability of financial services in ninety-nine countries

Empirical results

Table 1 reports the results of the cross sectional analysis. Eqs. (1) (3) and (5) represent the OLS regression results. Eqs. (2) (4) and (6) report the results of the IV regressions.

Eq. (1) clearly shows a negative and statistically significant relationship between bank branches and income distribution. This result is further corroborated by the IV regression as reported in Eq. (2). In fact the coefficient on the bank variable is three times larger and clearly more economically meaningful. All

Conclusion

Based on the reported results this study concludes that there is robust support for the general idea that micro focused measures of financial development are good for the poor, in that it has a salutary effect on income distribution. Specifically we are able to document that greater access to bank branches and therefore banking services are good for the poor, however higher barriers to banking services, especially as measured by high minimums to open a checking/savings account is detrimental to

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View full text

Availability of financial services and income inequality: The evidence from many countries

Abstract

Introduction

Section snippets

Finance and inequality

Data

Empirical results

Conclusion

Emerging Markets Review

Emerging Markets Review

Occupational choice and the process of development

Journal of Political Economy

Finance, inequality and poverty: cross-country evidence

World Bank Policy Research Working Paper 3338

Banking services for everyone? Barriers to bank access and use around the world

World Bank Policy Research Working Paper 4079

Reaching out: access to and use of banking services across countries

World Bank Policy Research Working Paper

Finance inequality and the poor

Journal of Economic Growth

Big bad banks

The Impact of US Branch deregulation on Income distribution

Do rural banks matter? Evidence from the Indian social banking experiment

American Economic Review

Finance and income inequality: what do the data tell us?

Southern Economic Journal

Finance and inequality: channels and evidence

Journal of Comparative Economics

Financial-sector reform: what works and what doesn't

Economic Development and Cultural Change

Income distribution and macroeconomics

Review of Economics Studies