Demand Composition and Income Distribution

51 Pages Posted: 6 Feb 2015

See all articles by David Pothier

David Pothier

German Institute for Economic Research (DIW Berlin)

Damien Puy

International Monetary Fund (IMF)

Date Written: December 2014

Abstract

This paper highlights how changes in the composition of demand affect income dispersionin the short run. We first document how the share of aggregate spending dedicated tolabour-intensive goods and services shrinks (expands) during downturns (booms), andargue that this contributes to the observed pro-cyclicality of employment and output inlabour-intensive industries. Using a two-sector general equilibrium model, we then assesshow this demand composition channel influences the cyclical properties of the incomedistribution. Consistent with empirical evidence, we find income inequality to be countercyclicaldue to changes in the level of employment and (to a lesser extent) relative factorprices. The model also shows that wealth redistribution policies can potentially involve atrade-off between equality and output, depending on how they affect the composition ofaggregate demand.

Keywords: Demand, Income distribution, Income inequality, Business cycles, General equilibrium models, capital, goods, productivity, economy, production, interest, shares, prices, gini coefficient, consumption, interest rate, ownership, wealth, unemployment, investment, value, gdp, consumers, budget constraints, value added, utility, stock, marginal product, trade, macroeconomic performance, benchmark, wages, aggregate demand, profits, income groups, consumer preferences, equilibrium prices, durable goods, factor demand, international trade, profit maximization, inputs, credit, product markets, industrialization, utility maximization, utility function, trends, taxes

Suggested Citation

Pothier, David and Puy, Damien, Demand Composition and Income Distribution (December 2014). IMF Working Paper No. 14/224. Available at SSRN: https://ssrn.com/abstract=2561269

David Pothier (Contact Author)

German Institute for Economic Research (DIW Berlin) ( email )

Mohrenstra├če 58
Berlin, 10117
Germany

Damien Puy

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

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