Introduction
Income inequality is an enduring issue in economic development discussions, along with poverty. According to Karagiannaki (2017), inequality causes harmful effects to economic growth. Many researches have proved this hypothesis, including OECD’s (2014) which stated that a rise in inequality by 3 Gini points would reduce economic growth by 0.35 percentage points per year.
Though often associated with poverty, income inequality differs as it takes into account the entire spread of income distribution whereas poverty only focuses on the lower part (Foster et al., 2013). OECD (2014) stated that the gap between lower income, more specifically the bottom four deciles, and the rest of the population is the biggest factor in inequality and growth relationship. Therefore, policies must address lower income generally, not only poverty.
Inequality’s negative impact on economic growth cause a growing research number on its relevance to multiple variables, including financial inclusion. Financial inclusion and income inequality commonly are negatively related. Despite being supported with various research, Demir et al. (2020) stated that this relationship might vary depending on other factors, such as the level of economic development. This motivates research that considers the various levels of economic development in countries which can be observed by using Organisation for Economic Co-operation and Development (OECD) countries’ data. In addition to that, financial inclusion still remains a big challenge in OECD countries, such as the financial literacy racial gaps in the United States and the limited access to financial services in Costa Rica and Mexico (Fareed et al., 2021). As the average income of the highest 10% level of income distribution is about nine times of the lowest 10% in OECD countries (OECD, 2017), observing financial inclusion and inequality in OECD countries becomes highly relevant.
One observation from the inequality data is that, while within-country income inequality has increased, between-country income inequality has decreased. Indeed, for the past 25 years, income convergence between developed and developing countries has been driven by the rapid growth of emerging market economies, such as China and India. Nonetheless, between-country income inequality is not an accurate portrayal of the disparities experienced by people on a daily basis. Today, an estimated 71% of the world population lives in countries that have experienced an increase in within-country income inequality since the 1990s. Interestingly, this increase has also been significant in developed economies. As shown by figure 1.1., the average annual income gap between the top and bottom deciles of the income distribution has been far more pronounced in developed economies such as the U.S. and the UK. According to the OECD (2015), this has been largely driven by the increasing concentration of wealth in the hands of the richest 1%.
How has this happened? Commonly cited reasons include globalisation, skill-biased technological growth, falling tax rates for the wealthy, as well faster growth in executive compensation (OECD, 2020). However, one factor is particularly relevant for our case: financialisation, which is the increase of the financial sector’s size and importance to the overall economy. For one, it has been observed that workers in finance tend to enjoy a considerable wage premium, in that they are paid much higher than workers of similar skill in other sectors (Cournede et al., 2015). Besides that, the increasing accessibility of credit tends to benefit high earners more, as they are more likely to have good credit scores, thus accessing cheap loans for investment. Likewise, as the wealthy are more likely to own company shares, stock market expansions have also disproportionately benefited them through capital gains and dividend payments (Blundell-Wignall & Roulet, 2014).
Despite the link between financialisation and inequality, fintech has seemingly become an exception to the findings. With increased digitization, fintech is capable of providing payments and remittance services at lower costs. Similarly, the usage of machine learning in alternative credit scoring models have provided previously underserved individuals access to cheaper loans. A few real-life examples stand out: Through its 2G platform, Kenyan fintech firm M-PESA have provided millions of unbanked Africans access to financial services. Similarly, IndiaStack has also helped many firms digitize their financial services through its open banking APIs. As such, the link between fintech, financial inclusion, and inequality will be explored further in the remainder of this paper.
Our reference study, Demir et al. (2020), suggests a few conclusions. First, fintech reduces income inequality through financial inclusion. Second, financial inclusion reduces income inequality at all quantiles where its effect is larger in upper quantiles. Demir et al. (2020) used a sample of 140 countries, consisting of low-, lower middle-, upper middle-, and high-income countries, using data from the 2011, 2014, and 2017 waves of the Global Findex survey.
Literature Review
