Political Capitalism: The Interaction between Income Inequality, Economic Freedom and Democracy

Discussion Paper Series, Wilfried Guth Endowed Chair for Constitutional Political Economy and Competition Policy, University of Freiburg, No. 2015-09

38 Pages Posted: 18 Dec 2015 Last revised: 22 Aug 2019

See all articles by Tim Krieger

Tim Krieger

University of Freiburg - Department of Economics

Daniel Meierrieks

WZB Berlin Social Science Center

Multiple version iconThere are 2 versions of this paper

Date Written: December 16, 2015

Abstract

In this contribution we study the relationship between income inequality and economic freedom for a panel of 100 countries for the 1971-2010 period. From a panel causality study we find that income inequality has a negative causal effect on economic freedom, while causation does not run in the opposite direction. We argue that the negative effect of inequality on economic liberty is due to the elite’s political power stemming from its disproportionate control over a country’s economic resources. The elite uses this power to curtail economic freedom to defend its economic interests by discouraging innovation, competition and protecting its rents. Running a series of dynamic panel estimations, we show that the negative effect of income inequality on economic freedom is robust to different sets of controls and estimation techniques. Finally, we show that the dynamics of the inequality-freedom nexus are to some extent conditional upon a country’s political regime. When inequality is low, democracies enjoy comparatively higher levels of economic liberty, in line with the interests of a large middle-class. By contrast, economic freedom is lower in democracies (compared to strongly autocratic regimes with the same income distribution) when inequality is high. We argue that the latter finding corresponds to a system of political capitalism or captured democracy, where a powerful economic elite cooperates with politicians and bureaucrats for their mutual benefit.

Keywords: income inequality, economic freedom, democratic institutions, political capitalism, middle-class, captured democracy

JEL Classification: D31, D72

Suggested Citation

Krieger, Tim and Meierrieks, Daniel, Political Capitalism: The Interaction between Income Inequality, Economic Freedom and Democracy (December 16, 2015). Discussion Paper Series, Wilfried Guth Endowed Chair for Constitutional Political Economy and Competition Policy, University of Freiburg, No. 2015-09, Available at SSRN: https://ssrn.com/abstract=2704606 or http://dx.doi.org/10.2139/ssrn.2704606

Tim Krieger (Contact Author)

University of Freiburg - Department of Economics ( email )

University of Freiburg
Wilhelmstr. 1b
Freiburg, D-79085
Germany

HOME PAGE: http://www.wguth.uni-freiburg.de

Daniel Meierrieks

WZB Berlin Social Science Center ( email )

Reichpietschufer
50
Berlin, D-10785
Germany

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