Income Inequality and Economic Growth in the Post-Reform China: The Factor Accumulation Channels

In this paper, we investigate empirically the relationship between income inequality and economic growth, and the channels through which such a correlation arises, in the post-reform period of China. Using the panel data at the province level of China from 1982 to 2010, we find that economic growth and inequality are positively correlated, after controlling for the standard determinant variables of growth. In order to better understand the channels that give rise to this correlation, we examine the growth mechanisms as outlined in the unified growth theory (see Golar and Moav, 2004), according to which economic growth is driven by physical capital accumulation in the first stage before transiting to the second stage where human capital gradually becomes the main driving force. Our estimation results from the panel-data models and the 2SLS method show that the positive relationship between inequality and growth in the post-reform China is largely induced by the accumulation of physical capital, not that of human capital. In addition, inequality has a negative impact on growth through human capital channel. This finding also suggests that the performance of Chinese economy in the post-reform era is consistent with the early stage of modern growth in the unified growth theory whereby the high investment and physical capital accumulation lead to increases in both income inequality and economic growth.