Financial Development and Income Inequality: Empirical Study in European Union and ASEAN+6 countries

Abstract

High economic growth is needed to drive the economy, opening up more job opportunities and to attract investment. But economic growth alone is not enough to ensure that all communities get benefit from economic development. Some Asian countries such as South Korea, China, India and Indonesia experienced high economic growth but at the same time income inequality in these countries also rises. Income inequality increases in both developing and developed countries. High income inequalities bring negative impacts such as slower economic growth, rising unemployment and social problems. With the fact that income inequality increased globally and its negative impact on the economy, a strategy required to reduce it. One strategy that can boost economic growth while reducing the income inequality is financial development. Globalization gives us opportunity as well as threat. This encourages countries to establish economic integration in order to strengthen their position in the world. Countries in Southeast Asia also establish an organization known as the Association of South East Asian Nations (ASEAN). The cooperation extended trough Japan, China, South Korea, New Zealand, Australia, and India, as ASEAN +6. Globalization and regional economic integration is expected to promote economic development, including financial development through increased competition and access to the banking financial services. Various studies have shown a strong correlation between economic growth and financial development. In relation to the distribution of income, financial development influence individual economic opportunity. However, there is still a debate about the role of financial development in reducing income inequality related to who benefits most from financial development. Debate on the relationship between income inequality and financial development raises urgent questions for decision-makers about the role of government to improve the financial development that supports growth and reduces inequality, while maintaining economic and financial stability. Financial development in the framework of regional economic integration also requires the right government regulations related to financial openness. Policy should be adapted to the situation of the domestic economy as well as adaptable to other countries' policies. Therefore this study aimed to analyze the dynamics of the development of the financial sector and the income gap between developed countries and developing in the region that is economically integrated ASEAN +6 and the European Union. This study will also analyze the convergence of income inequality in the countries in the two regions. This study used data for the period 1991-2010 from 30 countries including 11 ASEAN +6 countries and 19 EU countries. These countries are Indonesia, Singapore, Malaysia, Philippines, Thailand, Japan, China, South Korea, India, New Zealand, Australia, Austria, Belgium, Denmark, Finland, Germany, France, Greece, Ireland, Italy, Luxembourg, Netherlands, Portugal, Spain, Switzerland, the UK, Sweden, Hungary, Poland and Romania. Descriptive analysis is used to provide an overview of financial development in the ASEAN +6 and the European Union. While the panel data regression analysis is used to examine the pattern of the relationship between income inequality and financial development and the degree of convergence of income inequality in the European Union and ASEAN +6. The result suggest there were convergence in income inequality with the convergence of income inequality in the period 2001-2010 faster than in the 1991-2000 period. In general, financial development has a significant effect on income inequality in all countries studied. There is a different pattern of relationship between financial development and income inequality in developed and developing countries. In the developed countries financial development lowers the income gap. In contrast to developing countries financial development increases income inequality.

High economic growth is needed to drive the economy, opening up more job opportunities and to attract investment. But economic growth alone is not enough to ensure that all communities get benefit from economic development. Some Asian countries such as South Korea, China, India and Indonesia experienced high economic growth but at the same time income inequality in these countries also rises. Income inequality increases in both developing and developed countries. High income inequalities bring negative impacts such as slower economic growth, rising unemployment and social problems. With the fact that income inequality increased globally and its negative impact on the economy, a strategy required to reduce it. One strategy that can boost economic growth while reducing the income inequality is financial development. Globalization gives us opportunity as well as threat. This encourages countries to establish economic integration in order to strengthen their position in the world. Countries in Southeast Asia also establish an organization known as the Association of South East Asian Nations (ASEAN). The cooperation extended trough Japan, China, South Korea, New Zealand, Australia, and India, as ASEAN +6. Globalization and regional economic integration is expected to promote economic development, including financial development through increased competition and access to the banking financial services. Various studies have shown a strong correlation between economic growth and financial development. In relation to the distribution of income, financial development influence individual economic opportunity. However, there is still a debate about the role of financial development in reducing income inequality related to who benefits most from financial development. Debate on the relationship between income inequality and financial development raises urgent questions for decision-makers about the role of government to improve the financial development that supports growth and reduces inequality, while maintaining economic and financial stability. Financial development in the framework of regional economic integration also requires the right government regulations related to financial openness. Policy should be adapted to the situation of the domestic economy as well as adaptable to other countries' policies. Therefore this study aimed to analyze the dynamics of the development of the financial sector and the income gap between developed countries and developing in the region that is economically integrated ASEAN +6 and the European Union. This study will also analyze the convergence of income inequality in the countries in the two regions. This study used data for the period 1991-2010 from 30 countries including 11 ASEAN +6 countries and 19 EU countries. These countries are Indonesia, Singapore, Malaysia, Philippines, Thailand, Japan, China, South Korea, India, New Zealand, Australia, Austria, Belgium, Denmark, Finland, Germany, France, Greece, Ireland, Italy, Luxembourg, Netherlands, Portugal, Spain, Switzerland, the UK, Sweden, Hungary, Poland and Romania. Descriptive analysis is used to provide an overview of financial development in the ASEAN +6 and the European Union. While the panel data regression analysis is used to examine the pattern of the relationship between income inequality and financial development and the degree of convergence of income inequality in the European Union and ASEAN +6. The result suggest there were convergence in income inequality with the convergence of income inequality in the period 2001-2010 faster than in the 1991-2000 period. In general, financial development has a significant effect on income inequality in all countries studied. There is a different pattern of relationship between financial development and income inequality in developed and developing countries. In the developed countries financial development lowers the income gap. In contrast to developing countries financial development increases income inequality.