Income inequality, tax base and sovereign spreads

This note investigates the impact of greater income inequality on the tax base, on the defacto fiscal space, and the sovereign spreads. Using data from 50 countries in 2005 and in 2010, we find that higher income inequality is associated with a lower tax base, lower de-facto fiscal space, and higher sovereign spreads. The economic magnitude of these effects is rather large: a one standard deviation increase of inequality is associated with a lower tax base of 28 % GDP, and with a higher sovereign spread of 240 basis points in 2005.