Trade-Off Between Consumption Growth and Inequality: Theory and Evidence for Germany

Abstract

This paper examines the structure and evolution of consumption inequality. Once heterogeneous agents relate their neighbors' consumption to their own, consumption volatility and inequality are affected. The model predicts a positive relationship between the group specific average consumption growth and within-group inequality, which is empirically confirmed using survey data from the German Socio-Economic Panel (GSOEP) covering the period 1984-2005. Age and household size are crucial for within-group inequality, as young and/or small households are more sensitive to income and consumption shocks. The data also shows increases of within-group inequality directly after the reunification and the introduction of the euro.