Income Distribution and the Business Cycle in Germany: A Semiparametric Approach

Abstract

The question of how the distribution of income is influenced by the state of the economy is important for understanding the economic mechanisms linking micro- and macro-level variables. There is no generally applicable theory on how the distribution of household incomes is influenced by changed macroeconomic conditions. This paper adapts an empirical approach in order to investigate this relationship by employing a semi-parametric double-index model without restrictions on the shape of the link function between indices of household- and macro-level variables. We conclude that the link function is non-trivial and non-additive, meaning that the influence of macroeconomic conditions (i.e. GDP, inflation, government expenditure or unemployment) is likely to vary with household characteristics. The influence found is small, but in parts significant, drawing a comprehensive picture of potential link-mechanisms.