Why does the nexus between finance and inequality break in times of financialization? Empirical evidence for the European Union countries

Abstract

The majority of policy makers in developed countries have, since the 1970s and 1980s, put in place a strong process for the liberalization, deregulation and privatization of the financial system, particularly persuaded by the mainstream assumption that this represents the best strategy to sustain the growth of finance, enhance economic growth and lessen inequality. Nonetheless, economic growth has been quite anaemic in the majority of developed countries, and inequality has continued to widen in the last four decades, which feeds non-mainstream beliefs regarding the disruptive role played by the growth of finance in contemporary societies in times of financialization. This paper aims to contribute to the current debate between the mainstream and the non-mainstream literature on the effect of the growth of finance on the level of inequality by performing a panel data econometric analysis for all the European Union countries from 1980 to 2019. Our findings confirm that finance, economic growth, educational attainment and degree of trade openness have a positive long-term effect on the level of inequality in the European Union countries, whilst government spending has a negative impact in the short term. Our findings imply that policy makers should rethink the functioning of the financial system and adopt public policies that are more in favour of the poor in order to constrain the growth of inequality in the European Union countries.