Does Income Distribution Matter for Effective Demand? Evidence from the United States" Review of Political Economy, Volume 16, Number 3, 291–307

ABSTRACT This article examines the influence of income distribution in the determi-nation of effective demand in the US. A simple model is developed to simulate the effects of changing income inequality on the aggregate propensity to consume. The simulation results illustrate that income inequality has a substantial negative impact on consump-tion when household spending is assumed to be income-constrained. Econometric evidence is presented that rising private sector wage inequality had a dampening effect on the time path of consumption in the United States between 1978 and 2000. The methodology entails time series estimation of consumption specifications with a measure of income inequality (the Theil index) included among the explanatory variables. The argument is made that, ceteris paribus, rising income inequality creates a need for greater reliance on debt to sustain a given level of household spending. 1