Inequality, the Price of Nontradables, and the Real Exchange Rate : Theory and Cross-Country Evidence
The author provides theoretical and empirical evidence of a negative association between income inequality and real exchange rates. First, he builds a theoretical model showing the transmission mechanism from inequality to real exchange rates. Second, using cross-country data, he demonstrates that the theoretical argument has empirical support. The association is large, significant, and robust to alternative specifications of the reduced form model and estimation methodologies. These findings provide empirical support for Poverty Reduction Strategy Papers, government strategies agreed on with the World Bank that hinge on four major objectives: accelerating equity-based growth, guaranteeing access to basic social services for the poor, expanding opportunities for employment and income-generating activities for the poor, and promoting good governance. The author's analysis indicates that "equity-based growth" and "export-driven growth" are compatible policy goals. But the negative relationship between inequality and real exchange rates does not imply that policies aimed at dramatic redistribution will automatically lead to real depreciation of the domestic currency, improve the external balance, and accelerate economic growth.
Summary: | The author provides theoretical and
empirical evidence of a negative association between income
inequality and real exchange rates. First, he builds a
theoretical model showing the transmission mechanism from
inequality to real exchange rates. Second, using
cross-country data, he demonstrates that the theoretical
argument has empirical support. The association is large,
significant, and robust to alternative specifications of the
reduced form model and estimation methodologies. These
findings provide empirical support for Poverty Reduction
Strategy Papers, government strategies agreed on with the
World Bank that hinge on four major objectives: accelerating
equity-based growth, guaranteeing access to basic social
services for the poor, expanding opportunities for
employment and income-generating activities for the poor,
and promoting good governance. The author's analysis
indicates that "equity-based growth" and
"export-driven growth" are compatible policy
goals. But the negative relationship between inequality and
real exchange rates does not imply that policies aimed at
dramatic redistribution will automatically lead to real
depreciation of the domestic currency, improve the external
balance, and accelerate economic growth. |
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