The transmission of uncertainty shocks on income inequality: State-level evidence from the United States

TL;DR

This study investigates how macroeconomic uncertainty shocks influence income inequality across U.S. states, revealing heterogeneous responses driven by regional economic factors and quantifying the shocks' significance in inequality dynamics.

Contribution

It introduces a novel macroeconometric model to analyze regional inequality responses to uncertainty shocks in the U.S., highlighting heterogeneity and key driving factors.

Findings

Most states experience a decrease in income inequality following uncertainty shocks.

States in the West and South regions show increasing inequality over time.

Uncertainty shocks significantly contribute to the variance in income inequality across states.

Abstract

In this paper, we explore the relationship between state-level household income inequality and macroeconomic uncertainty in the United States. Using a novel large-scale macroeconometric model, we shed light on regional disparities of inequality responses to a national uncertainty shock. The results suggest that income inequality decreases in most states, with a pronounced degree of heterogeneity in terms of shapes and magnitudes of the dynamic responses. By contrast, some few states, mostly located in the West and South census region, display increasing levels of income inequality over time. We find that this directional pattern in responses is mainly driven by the income composition and labor market fundamentals. In addition, forecast error variance decompositions allow for a quantitative assessment of the importance of uncertainty shocks in explaining income inequality. The findings highlight that volatility shocks account for a considerable fraction of forecast error variance for most states considered. Finally, a regression-based analysis sheds light on the driving forces behind differences in state-specific inequality responses.