Do types of foreign capital matter for income equality?

Abstract

We investigate the link between financial integration and income inequality, suggesting that different channels of financial integration have contrasting distributional effects. Using an unbalanced panel of 65 countries from 1992 to 2015 and employing dynamic panel data methods, we find that greater financial integration through debt‐creating capital increases income inequality compared to equity‐type capital. Furthermore, a larger share of direct investment in financial integration is associated with lower income inequality; the converse is true for loans and credit, while the share of portfolio investment has no significant effect when considered as a whole. Evidence also shows that increased financial integration and trade is beneficial for reducing the income inequality of emerging economies.