Income inequality and economic growth: an empirical investigation in Mediterranean countries

Sizeable economic differences still exist among Mediterranean countries, which complicate the economic integration of the two shores of the Mediterranean. Examining the personal income distributions of these Mediterranean countries reveals structural differences in their levels of income inequality. However, over the last decade, disparities in economic development have decreased while the dynamics of income inequality have diverged among countries in different geographic and political areas of the Mediterranean (Capasso and Astarita, 2011; Amendola and Ferragina, 2011; El-Lahity 2012; Daniele and Malanima, 2013). Given this scenario, this article analyses the relationship between inequality and economic growth in Mediterranean countries. The relationship between income inequality and economic development has spawned a large theoretical and empirical body of literature (for a survey, see Barro 2000, Forbes 2000, Kanbur 2000, Banerjee and Duflo 2003, Knowles 2005, etc.). Notwithstanding, the following puzzles remain: (i) whether a correlation between inequality and economic growth exists and the direction of the association, (ii) the nature of this relation (short or long run), and (iii) whether causality runs from economic growth to inequality or vice versa. 1 In this paper, we focus on the first question the nature and direction of the correlation between income inequality and economic growth focusing on 18 Mediterranean countries over the period 1995−2012. Banerjee and Duflo (2003) argue that three main sources of bias contribute to the inconclusive results produced by this strand of research: (a) measurement error in the inequality data, especially because many studies do not consistently distinguish between income distributions before and after taxes and transfers; (b) selection of an estimator approach; (c) non-linearity in the relationship between the level of inequality and growth. Similarly, Ehrhart (2009)