Highlights :

• We extend the theoretical framework by Kumhof et al. (2015) to show that most of the predicted positive impact of inequality on credit should be driven by the share of income owned by middle classes.
• The model is brought to the data using a 44 countries dataset over the period 1970-2012, and a new instrumental variable (the total number of ILO conventions signed at the country-level) to identify exogenous variations of inequality.
• We support a positive impact of inequality concentrated on household leverage, mostly driven by middle classes, rather than low-income households.
• Consistently, our results hold mostly for developed countries.

 Abstract :
How do income inequality and its structure affect the volume of credit? We extend the theoretical framework by Kumhof et al. (2015) to distinguish between upper, middle and low-income classes, and show that most of the positive impact of inequality on credit predicted by Kumhof et al. (2015) should be driven by the share of total output owned by middle classes. These theoretical predictions are empirically confirmed by a study based on a 44 countries dataset over the period 1970-2012. Exogenous variations of inequality are identified with a new instrument variable, the total number of International Labor Organization conventions signed at the country-level. Using various indicators of inequality, we support a positive impact of inequality concentrated on household leverage, and investigate how this average impact is distorted along income distribution. Consistently with the theoretical setting, our results tend to show that most of the impact is driven by middle classes, rather than low-income households. Consistently, our results hold mostly for developed countries.

 Keywords : Credit | Finance | Income Inequality | Inequality structure

 JEL : D31, E25, E44, G01


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