We develop a macroeconomic model with an agent-based household sector and a stock-ﬂow consistent structure, in order to analyse the impact of rising income inequal-ity on the likelihood of a debt crisis for diﬀerent institutional settings. In particular, we study how economic crises emerge in the presence of diﬀerent credit conditions and policy reactions to rising income disparities. Our simulations show the relevance of the degree of ﬁnancialisation of an economy. In fact, when inequality grows, a Scylla and Charybdis kind of dilemma seems to arise: on the one hand, low credit availability implies a drop in aggregate demand and output; on the other hand, a higher willingness to lend and lower perceptions of system risk result in greater instability and a debt-driven boom and bust cycle. The model allows to replicate the credit-led consumption booms that paved the way for both the crisis of 1929 and the recent ﬁnancial crisis. In addition, our paper yields a new insight on the appropriate policy reaction: tackling inequality by means of a more progressive tax system compensates for the rise in income disparities thereby stabilising the economy. This is a better solution compared to a more proactive ﬁscal policy which, instead, only leads to a larger duration of the boom and bust cycle.
Inequality, Financialisation and Credit Booms: a Model of Two Crises
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