Fiscal policy and inequality in a model with endogenous positional concerns

TL;DR

This paper models how endogenous positional concerns influence wealth inequality dynamics, showing that fiscal policy can promote egalitarian wealth distribution and economic growth.

Contribution

It introduces a model where positional concerns depend on wealth inequality, analyzing long-term outcomes and policy effects on wealth distribution.

Findings

Economy converges to egalitarian steady-state with low initial inequality.

High initial inequality leads to wealth polarization into rich and poor.

Fiscal policy can shift the economy towards a more egalitarian and wealthier equilibrium.

Abstract

We investigate the dynamics of wealth inequality in an economy where households have positional preferences, with the strength of the positional concern determined endogenously by inequality of wealth distribution in the society. We demonstrate that in the long run such an economy converges to a unique egalitarian steady-state equilibrium, with all households holding equal positive wealth, when the initial inequality is sufficiently low. Otherwise, the steady state is characterised by polarisation of households into rich, who own all the wealth, and poor, whose wealth is zero. A fiscal policy with government consumption funded by taxes on labour income and wealth can move the economy from any initial state towards an egalitarian equilibrium with a higher aggregate wealth.