Do Poverty and Income Inequality Affect Public Debt?

The aim of this paper is to capture the impact of poverty and income inequality on public debt in European Union countries, providing for the dynamic nature of the response variable. To assess absolute poverty, a new overall deprivation indicator is suggested, a measure that makes it possible to distinguish between average deprivation and severe deprivation. To determine income inequality, the nevenness in the distribution of pre-fiscal income is considered, as this is the factor that is most likely to cause government redistributive spending. A dynamic panel data model (DPD model) is estimated using the bias-corrected LSDV estimator. The results indicate that neither poverty nor income inequality are statistically significant predictors of the public debt-to-GDP ratio. This is because countries that report higher absolute poverty or higher income inequality de facto spend less on social benefits, while countries with higher relative poverty do not have higher social spending than the rest of the sample.