Non‐Linearity and Cross‐Country Dependence of Income Inequality

We use top income data and the newly developed regime switching Gaussian mixture vector autoregressive model to explain the dynamics of income inequality in developed economies within the last 100 years. Our results indicate that the process of income inequality consists of two equilibriums identifiable by high inequality, high income fluctuations and low inequality, low income fluctuations. Our results also show that income inequality in the U.S. is the driver of income inequality in other developed economies. Both economic and institutional changes emanating from the U.S. explain this dominance.