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Linkages between income inequality, international remittances and economic growth in Pakistan

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Abstract

This paper explores the dynamic linkages between income inequality, international remittances and economic growth using time series data over the period of 1976–2006 in case of Pakistan. The cointegration analysis based on the bounds test confirms the existence of a long-run relationship between income inequality, international remittances and economic growth. Our results reveal that income inequality and international remittances enhance economic growth. The causality analysis based on innovative accounting approach shows bidirectional causal relationship between income inequality and economic growth and same is true for international remittances and income inequality. International remittances are cause of economic growth but not vice versa. Although we find support for Kuznets hypothesis but Pakistan is yet to benefit, in terms of reducing the gaps of income inequality, from the international flow of remittances and economic growth. The paper argues that, from a policy perspective, there is an urgent need for policy makers in Pakistan to reduce the widening gap of income inequality by focusing on income redistribution policies and to go beyond the traditional factors in balancing income inequality.

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Notes

  1. Remittance income refers to regular cash payments received from household members working outside the community for periods of 6 months or more (Lerman and Feldman 1998).

  2. Scholars attempt to mitigate the endogeneity problem using the instrumental variable methods. However, it is a well-known fact that finding valid variables as the instrument is difficult and always leads spurious results (Herzer and Vollmer 2012).

  3. Previous studies (e.g. Meschi and Vivarelli 2009) use GDP and GDP squared terms to test the Kuznets hypothesis.

  4. Some uses economic growth models while others use fixed effect panel estimates.

  5. Studies using homogeneous panel estimators produces inconsistent and misleading estimates of the average values of the parameters in dynamic models (Herzer and Vollmer 2012)

  6. The study on the effect of inequality on economic growth can be traced back to Kaldor (1960) and Kalecki (1971).

  7. Partridge (2005) also reported positive impact of income inequality on economic growth using state-level data in case of USA.

  8. We consider only a trivariate model in this paper. Inclusion of more variables such as financial development, trade and government spending may potentially lead to more problems. And, with short span of data series it may also affect the degree of freedom.

  9. The data on Gini-coefficient has restricted for selected time period.

  10. Dummy variables in base on finings of Clemente et al. (1998) unit root test accommodating single unknown structural break in the time series.

  11. The critical values are more appropriate for small sample studies (e.g. 30 sample size).

  12. The structural break in income inequality series is outcome of the implementation of a medium term structural adjustment in Pakistan during 1987–1988. The structural break in foreign remittances is linked with general elections were held in 1988 and country received $10.8 billion dollars of foreign remittances. The structural break in economic growth was outcome of Pakistan’s involvement in Afghanistan’s war with Russia. This led bulk amount of immigrants from Afghanistan which has adversely affected economic growth of Pakistan. Now-a-days terrorism is the gift of that collation.

  13. The CUSUMsq graph shows structural break in 1998–1999 indicating the atomic explosion of Pakistan and then collapse of Nawaz government.

  14. Based on World Bank’s income categorization

  15. The small effect of remittance may also be due the informal transfer of remittance that this study fails to capture. This study only includes the official transaction income remittance.

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  1. Department of Management Sciences, COMSATS Institute of Information Technology, Defense Road, Off Raiwind Road, Lahore, Pakistan

    Muhammad Shahbaz

  2. Department of Finance and Banking, Faculty of Business and Accountancy, University of Malaya, Kuala Lumpur, Malaysia

    Ijaz Ur Rehman & Nurul Shahnaz Ahmad Mahdzan

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  1. Muhammad Shahbaz
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Shahbaz, M., Rehman, I.U. & Mahdzan, N.S.A. Linkages between income inequality, international remittances and economic growth in Pakistan. Qual Quant 48, 1511–1535 (2014). https://doi.org/10.1007/s11135-013-9850-4

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