Mixed Frequency Panel Vector Autoregressions

and the Inequality vs. Growth Nexus

Michael Binder

Goethe University Frankfurt

Melanie Krause

Goethe University Frankfurt

Highly Preliminary and Incomplete. Please Do not Quote. May 15, 2014.

Abstract
Empirical findings as to how income inequality affects output growth seem
to yield little consensus to date. This paper argues that new insight can be
gained from taking into account the different measurement frequencies of the
variables of interest: While data on output growth on a broad cross-country
basis is available at least annually, notable changes in inequality as captured
by the Gini coefficient only manifest themselves over a multiple-years horizon.
This suggests the use of mixed frequency data sampling (MIDAS), as first introduced by Ghysels et al. (2002). We extend the MIDAS vector autoregression
approach of Ghysels (2012) to the panel data setting, and estimate our MIDAS
Panel VAR model with an unconditional quasi-maximum likelihood estimator.
Our modeling approach also accounts for country-specific characteristics, the
potential endogeneity of the inequality variable and possible state-dependencies
in the relation. We provide Monte Carlo simulation evidence of the performance
of the QML estimator in a such a setting and then apply it to inequality data
from the Standardized World Income Inequality Database 4.0 based on Solt
(2009). We find, inter alia, that conditioning on the level of income per capita
influences how inequality affects output growth, with the impact being more
detrimental in wealthier countries.

JEL Classification: C33, C51, D30, O57

Keywords: MIDAS, Output Growth, Inequality, Panel Data Vector Autoregressions

Correspondence address: Goethe University Frankfurt, Faculty of Economics and Business

Administration, Chair for International Macroeconomics & Macroeconometrics, Grueneburgplatz
1, House of Finance, 60323 Frankfurt am Main, Germany; E-mail: mbinder@wiwi.uni-frankfurt.de.

Goethe University Frankfurt, Address see above. E-mail: melanie.krause@wiwi.uni-frankfurt.de

The authors are grateful for comments and suggestions to participants at the (EC)2 -Conference
on The Econometric Analysis of Mixed Data Sampling in Nicosia, the Spring Meeting of Young
Economists in Vienna, the 9th Winter School of Inequality and Social Welfare Theory in Alba di
Canazei, and the Brown Bag Seminar at Goethe University Frankfurt.

Introduction

Will a decrease in income inequality increase or decrease output growth? This question is of obvious relevance for policy makers and has been widely debated for some
decades now. Multiple channels as to how inequality might influence growth have
been noted in theoretical models: On the one hand, incentive and moral hazard
aspects (see, for example, Mirrlees, 1971), the higher propensity to save of the rich
(Bourguignon, 1981) and investment indivisibilities Aghion et al. (1999) can explain
why higher inequality might spur output growth. On the other hand, there are a
number of factors linking higher inequality to lower growth, including social instability and unrest (Gupta, 1990) investment-hostile re-distributive pressures (Persson
and Tabellini, 1994), and insufficient human capital acquisition (Galor and Zeira,
1993).
Some or all of these factors might be present but no consensus has been established
yet as to what the overall net effect is. In fact, empirical studies addressing how
inequality influences growth have produced widely varying results; consider for example, Barro (2000), Forbes (2000) and the meta-analysis by de Dominicis et al.
(2008). This is in part due to differences in country samples and choices of control
variables but also due to differences in econometric methodology.
In this paper we revisit the relation between inequality and output growth and address an often-overlooked point, namely the different measurement frequencies of
inequality and output growth: While cross-country data on output growth is available at least annually, changes in the Gini coefficient only tend to materialize over
a multiple-year horizon. Typically, researchers bring both variables to the same low
frequency by taking the average output growth rate over several years. We argue
that this simple averaging involves a loss of information that can potentially distort
the results. In order to make optimal use of all available data, we employ methods
from the mixed frequency data sampling (MIDAS) literature.
MIDAS was introduced by Ghysels et al. (2002, 2005, 2006). The idea is to regress
the low-frequency variable on a suitable aggregation of the high-frequency variable.
Typical applications can, for example, be found in financial macroeconomics, where
comparatively low-frequency real variables like employment growth are regressed on
high-frequency financial indicators such as stock prices. Our case here is different in
that our dependent variable, output growth is of relatively high frequency compared
to the regressor, inequality. We can address this issue by resorting to a MIDAS-VAR
setup, as introduced by Ghysels (2012), which also has the side benefit of contour-

ing the potential endogeneity involved in our regression. Because our cross-country
data set is a panel, we extend Ghyselss MIDAS-VAR model to panels. To our
knowledge, MIDAS Panel VARs (PVARs) have not yet appeared in the literature.
We estimate our model using an unconditional quasi maximum likelihood (QML)
estimator, extending the QML estimator proposed by Binder et al. (2005) to incorporate mixed frequency sampling. This estimator overcomes the bias associated with
"short T, large N" dynamic fixed-effects models such as ours, through modeling of
initial observations. Furthermore, our model can incorporate possible nonlinearities
in the relation between inequality and output growth: By introducing a conditional
pooled mean group component as suggested by Binder and Offermanns (2007) into
the MIDAS-PVAR, we let the impact of inequality on output growth depend on, for
instance, a countrys development level (proxied by income per capita). This allows
for the possibility that the effects vary systematically across different macroeconomic
environments and can shed light on the role of the choice of the country sample for
previous empirical findings.
This paper is organized as follows: In Section 2 we summarize the literature on the
inequality vs. growth nexus with a focus on key results obtained and the econometric
methodology employed. Section 3 introduces MIDAS regression models and extends
them to the nonlinear MIDAS-PVARs we will use. We present our QML estimator
in Section 4, where we also conduct a Monte Carlo simulation to gain some insights
into its performance. In Section 5 we discuss key features of our data set and present
and discuss our estimation results. Section 6 concludes.

Overview Concerning the Inequality vs. Growth Nexus

in the Literature

How increases in income inequality affect output growth has been an issue of intense
debate in the literature. Theoretical models have put forward a number of reasons
for the effects to be positive or negative, and a body of distinguished empirical studies has produced contradictory results.
In the theoretical literature, three main channels have been suggested as to how an
increase in inequality might have a positive effect on growth: The classical argument
of performance, effort and moral hazard, formalized by Mirrlees (1971), says that
performance-based wages will provide an incentive for individuals to work more if
effort is positively correlated with performance. The second potential positive effect
of inequality on growth relates to the higher propensity to save of the rich ("Kaldors
3

Hypothesis"). Bourguignon (1981) showed that a convex savings function leads to

steady state output which depends positively on the inequality of the initial income
distribution. As a third channel, investment indivisibilities have been put forward
as to why an inegalitarian distribution can be beneficial, see Aghion et al. (1999):
New and innovative industries often involve high sunk costs, which, in the absence
of well-functioning markets for firms shares, can only be stemmed by individuals
with concentrated wealth.
At the same time, a number of channels have been identified in the literature through
which higher inequality might translate into lower rates of growth: Social instability and political unrest have been investigated, inter alia, by Gupta (1990) and
Alesina and Perotti (1996). Their model suggests that higher inequality increases
socio-political instability, which in turn decreases investment and output growth.
The political dimension is also emphasized in the hold-up problem of Alesina and
Rodrik (1994) and Benhabib and Rustichini (1996). Persson and Tabellini (1994),
and more recently Farhi et al. (2012), argue that distributional pressure leads to
distortionary taxation of investment and other growth-stimulating activities. While
one can think of this effect being stronger in democracies, where the distribution of
political power is more egalitarian than the distribution of economic power, Clarke
(1995) and Deininger and Squire (1998) find empirical evidence that inequality adversely affects growth both in democracies and in non-democracies.
Another channel for higher inequality to cause lower rates of growth involves creditmarket imperfections that may preclude the poor from borrowing. While Aghion
and Bolton (1997) focus on borrowing constraints for investment in physical capital,
Galor and Zeira (1993) deal with the human capital case: If credit-market imperfections do not allow the poor to borrow against future earnings, they may not be able
to obtain an adequate education and may have to work as unskilled, decreasing the
overall productivity of the economy. A related argument by de la Croix and Doepke
(2003) emphasizes the higher fertility of the poor. In their theoretical model, poor
families choose a higher level of fertility given that the cost of education is fixed and
that the opportunity cost of time to raise multiple children increases with income.
Empirically, de la Croix and Doepke (2003) find that the Gini coefficient becomes
insignificant in a growth regression when the fertility differential - the fertility difference between the most and least educated women - is included. Detrimental growth
effects then are tied to inegalitarian access to education rather than to income in-

equality itself.1
Many or all of these channels through which inequality can influence output growth
might be there in practice, possibly counteracting in different strengths under different circumstances. The empirical evidence in cross-country studies is ambiguous.
Findings vary not only with the samples of countries (with varying data quality),
but also with different model specification and estimation methods, see e.g. Perotti
(1996) for a cross-sectional analysis and Barro (2000) and Forbes (2000) for panel
analyses. In a meta analysis of growth regressed on inequality de Dominicis et al.
(2008) note that cross-sectional studies tend to find negative coefficient estimate
and panel studies a positive one. This need not necessarily be a contradiction as the
short- and medium-term effects of changes in inequality may differ from the longterm effects. In a panel data context the regression equation of output growth on
inequality is typically given by
log(yit ) = + log(yi,t1 ) +

m
X

k xkit + Giniit + it

(1)

k=1

where yit stands for per capita income in country i in period t, Gini for the Gini
coefficient and xk for the k-th out of m additional regressors (for instance investment, schooling, fertility, inflation, rule of law etc).
Using this linear regression model Barro (2000) finds a positive coefficient on the
Gini coefficient in rich countries and a negative coefficient in poor ones. His threestep Least Squares estimation results are qualitatively supported by Lin et al. (2009)
using a threshold regression. The differing effects of inequality on growth in rich as
compared to poor countries may point to a nonlinearity in the relation. This is an
issue elaborated upon by Banerjee and Duflo (2003), who argue that linear models
such as (1) are misspecified because the growth rate should be an inverted U-shaped
function of net changes in inequality.2 They estimate such a model with the help of
1
This line of reasoning is related to the idea of inequality of opportunity, which has received
notable attention in recent years, see for example Ferreira and Gignoux (2011) and references
therein. Inequality is considered to consist of two components, one of which is assumed to be
performance-based and hence under individuals control, while the other one is determined by
circumstances beyond individuals control, such as their ethnic background or their parents level of
education. One might purport the first component to influence growth positively and the second one
to influence it negatively. Marrero and Rodriguez (2010) find evidence supporting this hypothesis
for a U.S. micro-level data set. It is beyond the scope of this paper to pursue possible inequality of
opportunity decompositions at the aggregate cross-country level.
2
It is worth mentioning that there is a vast strand of literature on nonlinear effects operating

a kernel regression and show that different estimation results in the literature can
be explained as a consequence of this nonlinearity. A theoretical model motivating
this nonlinear relation has been put forward by Galor and Moav (2004): The key argument is that in an economys early, physical capital-driven stages of development,
inequality helps to channel resources towards individuals with a higher propensity
to save, thus spurring growth; but in developed, human capital-based economies,
inequality and inegalitarian access to education in particular, are detrimental for
output growth.
This is a motivation for including a particular nonlinearity in the effect of inequality on output growth, more specifically with a dependence on income per capita, in
our modeling approach. A second feature will be to allow for unobservable countryspecific characteristics, which can reduce the omitted variable bias (see Forbes, 2000;
Herzer and Vollmer, 2012). The third issue we address is the potential endogeneity
of the inequality variable (see Deininger and Squire, 1998), which we can contour in a
bivariate setting. Another feature of our paper is the use of the Standardized World
Income Inequality data set (Solt, 2009, version 4.0, released in September 2013),
a data set covering relatively many countries and time periods, while maintaining
comparability.
But the most salient idea and our main motivation for revisiting the output growth
vs. inequality nexus is the following: In this strand of the literature, the different measurement frequencies of output growth and inequality have hardly received
any attention. In fact, output growth is observed at least annually in cross-country
data sets, while the Gini coefficient proxying for inequality only exhibits notable
changes over a multi-year horizon. For some countries the Gini coefficient is simply
not observed annually, for others it is, but its persistence is so high that it remains
virtually unchanged on a year-to-year basis. For many researchers a natural way
of dealing with a Gini coefficient taken at the multi-annual frequency and output
growth observed annually is to bring the latter to the same, low frequency: They
simply take multi-year averages of output growth. This paper argues that simple
averaging entails a loss of information which might distort the estimation results.
in the other direction, i.e. how output growth affects inequality. The Kuznets hypothesis (see
Kuznets, 1955) states that inequality increases with income in the early stages of a countrys
industrial development and decreases when a certain income threshold has been reached, due to
the trickle-down-effect and the welfare state. The empirical validity of the Kuznets hypothesis is,
however, controversial (see Deininger and Squire, 1998).

We will instead turn to econometric techniques specifically designed for making optimal use of variables observed at different frequencies: In the next section we will
review MIDAS models and extend them to build our nonlinear MIDAS Panel VAR
of output growth and inequality.

Extending the MIDAS approach to Panel Vector Autoregressions

Mixed Data Sampling Models (MIDAS) were introduced into the literature by Ghysels et al. (2002) and elaborated upon by Ghysels et al. (2005, 2006) and Andreou
et al. (2010), with the aim of making optimal use of all available data when some variables are measured at a higher frequency than others. A typical motivation has been
the area of financial macroeconomics, where one might regress a monthly-observed
real economic variable such as output or employment growth, inter alia, on financial variables like stock prices which are observed at a much higher frequency. The
key idea of the MIDAS approach is to use a suitable parametric aggregation scheme
for the high-frequency (HF) variable, specifically a scheme striking a good balance
between flexibility and parsimony. A simple MIDAS model for the regression of a
(m)
low-frequency (LF) variable yt on the HF variable xt can be written as
yt = 0 + 1

K
X

(m)

B(k; ) xt k + t ,

(2)

k=1

where m denotes the number of HF observations per LF observation, and L m rep1

(m)
(m)
resents a lag operator such that L m xt = xt k . The weighting function B(k; )
m

with parameter vector keeps the model parsimonious, irrespective of the number
of HF lags, K. Possible weighting functions include the Exponential Almon Lag
and the Beta Lag specifications, which, depending on the parameter vector , allow
flat, decreasing, increasing and hump-shaped weights to be obtained. It should be
noted that the special case of a MIDAS model with flat weights equals a simple
averaging of observations. However, Andreou et al. (2010) find that the traditional
OLS estimator applied to averaged data, i.e. using flat weights, can be inconsistent
if the data generating process is different, while the MIDAS estimator using flexible
weights is consistent and asymptotically efficient.
When now turning to use the MIDAS framework for our re-examination of the
7

growth vs. inequality nexus with panel data, we need to address two important
issues: First, the classical MIDAS setting regresses an LF variable on an aggregation
of HF variables. In our application, output growth as the dependent variable with its
at least annual observations is the HF variable relative to the more slowly changing
Gini coefficient. Regressing a HF variable on an LF variable is actually a reverse
MIDAS setting. Single-equation reverse MIDAS regression models are not yet as developed, but in addition would in any case suffer from the endogeneity problem for
our application. So we will work with a bivariate setting for the joint determination
of output growth and inequality in a MIDAS framework.
Secondly, this MIDAS-VAR has then to be extended into the panel dimension, which,
to our knowledge, has not yet appeared in the literature.
Let us consider MIDAS-VARs, as discussed by Ghysels (2012) and Gtz and
Hecq (2014), in more detail. For each LF time period t, the m HF observations xH,s
t
(with 1 s m) are stacked, followed by the LF observation xL
.
The
resultant
t
(m + 1)-dimensional vector is called xt :

xH,1
t
...

xt = H,m
xt
xL
t

(3)

The structural MIDAS-VAR with one lag,3

Ac xt = A1 xt1 + ut ,

(4)

in more detail reveals the underlying MIDAS-VAR structure:

H,1
H,1 H,1
ow
xt
11 ... 1m 1L
xt1
ut
...
0
N
1L

...
... ... ...
1
...
... ... ...

H,m
H,m + H,m
ow

m,m1 ...
0
...

1
N
x
x
u
mm
mL
t
t
mL
t1
N
ow
N
ow
L
L
L
L1
... Lm
1
L1 ... Lm LL
xt
xt1
ut
(5)
The matrix Ac refers to the contemporaneous relations between the LF and HF
variables during the LF period t, while the entries of A1 determine the impact of

1
...

While we will restrict the analysis to a model with one lag for the ease of exposition, the
argument easily carries over to further lags.

the lagged LF and HF variables from period t 1 on those in period t:

The entries of the m m upper-left submatrix of Ac capture the autoregressive dynamics of the HF variable of different subperiods within the same LF period. It has a
lower-triangular form, representing the fact that only HF observations of past rather
than future subperiods can have an impact in any given subperiod. The first m rows
ow (with 1 s m), capture the contemporaneous impact of the LF
last entries, N
sL
variable on the HF variable in the subperiods, also called Nowcasting Causality in a
MIDAS framework (see Gtz and Hecq, 2014). Similarly, the first m entries of the
ow (with 1 s m), refer to the contemporaneous impact of the
last row of Ac , N
Ls
HF variable on the LF variable. Looking at the matrix A1 , we see that the entries
of the m m upper-right submatrix govern the autoregressive dynamics of the HF
variable of the past LF period. A MIDAS-PVAR of lag order 1 can incorporate an
AR-process up to lag order m for the HF variable, leading to the upper-triangular
structure of that submatrix. The first m rows last entries, sL (with 1 s m), will
be the main focus of our analysis because they govern the impact of the lagged LF
variable on the HF variable in the subperiods ("Reverse MIDAS"). Conversely, the
first m entries of the last row of A1 , Ls (with 1 s m), measuring the influence
of the (aggregated) lagged HF variable on the LF variable is the "Classical MIDAS"
case. Obviously, we will later on impose some restrictions on the parameters in Ac
and Ac and on the variance-covariance matrix of the disturbance vector. But let us
now proceed to extend this pure time-series MIDAS-VAR to the panel dimension,
which is one of the contributions of this paper.
A panel data estimation has many well-known advantages compared to time
series, and, inter alia, results can be obtained with fewer time periods available
("short T , large N "). This is relevant for our investigation of the relation between
inequality and output growth on a cross-country data set.
In general, for each cross-sectional unit i, 1 i N , the data vectors xit for all
LF periods 1 t T , as defined in (3), are stacked below each other. Then the
cross-sectional vectors xi are stacked. For a MIDAS-PVAR with the high frequency
variable being observed m times during each LF period, N cross-sectional units, T
LF time periods, unit-specific fixed effects c0i and a homogeneous time trend c1 , the
model is of dimension N T (m + 1) and looks as follows:

x11
c01
c1
x10
u11

... ... ...

... ...

0 1

x1T c1 c
x1,T 1 u1T

... ... ...

... ...

x c0 c1
u
x
i1 i

i0
i1

(IN T Ac ) ... = ... + ... t + (IN T A1 ) ... + ...

xiT c0i c1
xi,T 1 uiT

... ... ...

... ...

x c0 c1

x
N1 N
N 0 uN 1

... ... ...

... ...
c0N
c1
xN T
xN,T 1
uN T
(6)
The matrices IN Ac and IN A1 are block-diagonal. The exclusion of crosssectional dependence keeps the model parsimonious and estimable, subject to the
condition that Ac and A1 are appropriately parametrized.
A further point is the introduction of state-dependencies into this MIDAS-PVAR.
As has been argued above, it is desirable that our model should be able to capture
a possible nonlinearity in the effects of inequality on output growth. This might
for instance be caused by dependence on a conditioning variable cond, which, following the lines of thinking of Barro (2000) and Galor and Moav (2004), could be
income per capita proxying for a countrys level of development. We will draw on
the methodology developed by Binder and Offermanns (2007), who discuss statedependent effects using semi- and nonparametric specifications, and use a simple
affine-linear polynomial for the conditioning functional. So we let an entry of A1 ,
say a, depend on the conditioning variable by
a = a0 + a1 cond.

(7)

This conditioning functional a appears in all the entries of the matrix A1 which involve the impact of inequality on output growth in a subperiod.4 Having constructed
4

In fact, the dependence on the conditioning variable will make the matrix A1 look different
for each cross-sectional unit. To simplify notation we will suppress the i-subscript in this context.
Working with a conditioning variable that is constant over time (for instance, taking the income per
capita levels at the beginning of the sample period) and standardized around zero ensures that we
can derive our unconditional QML estimator in an analogous way to Binder et al. (2005) without
conditioning.

10

a nonlinear5 MIDAS-PVAR, we will now address the question how to estimate it.

Monte Carlo Simulation: Estimating a MIDAS-PVAR

model with Unconditional QML

4.1

The Estimator

In essence, (6) is a particular case of a "short T , large N " PVAR. This structure
suggests the use of the unconditional PVAR Quasi Maximum Likelihood Estimator
(PVAR-QML) proposed by Binder et al. (2005): Specifically modeling the initial
observations, they can overcome the bias with fixed-effect models of this type. In
their paper, Binder et al. (2005) conclude that the PVAR-QML estimator outperforms various GMM estimators in finite samples, whether or not the error terms are
distributed normally.
The PVAR-QML estimator does not yet seem to have been used in the MIDAS context, so we adjust and extend it accordingly:
We can write the structural MIDAS-PVAR (6) for each cross-sectional unit i,
1 i N , and LF period t, 1 t T , as
Ac xit = c0i + c1 t + A1 xi,t1 + uit .

(8)

Premultiplying (8) by A1
c yields the reduced-form representation:
1
xit = c0
i + c t + A xi,t1 + it ,

(9)
0

1
0
1 = A1 c1 , A = A1 A and = A1 A1 .
with c0
1

u c
c
c
c
i = A c ci , c

In order to carry out the estimation, it will be useful to rewrite (9) in terms of
deviations from the time trend:
(I AL)(xit i t) = it

(10)

where I is the identity matrix of dimension m + 1, L denotes the lag operator and
1 1
1 1
it holds that i = (I A)1 (c0
i A(I A) c ) and = (I A) c .
5

When we use the term nonlinearities in the following, it refers to the state-dependencies discussed here. It is beyond the scope of this paper to deal with the inclusion of other types of
nonlinearities into a MIDAS-PVAR model.

11

We will consider (10) the model we observe. As in Binder et al. (2005), we assume
that the following assumptions hold:
The available observations are xi0 , xi1 , ..., xiT with T 2. The disturbances it , t
T are independently and identically distributed (i.i.d.) for all i and t with E(it ) = 0
and V ar(it ) =  , where the latter is a positive definite matrix. Furthermore, the
initial deviations
(11)
i0 = xi0 i
are assumed to be i.i.d. across i, with zero means and the constant nonsingular
variance V ar( i0 ) = 0 . In this paper we will assume that all eigenvalues of A
fall inside the unit circle, hence the process is weakly (trend-)stationary. This is a
special case of Binder et al. (2005) and means the process (10) can either start from
an infinite or finite past.6
Taking first differences of (10) eliminates the unit-specific effects:
(I AL)(xit ) = it , t = 2, 3, ..., T.

(13)

or, equivalently, in a demeaned way

(I AL)
xit = it , t = 2, 3, ..., T.

(14)

with
xit = xit .
For the initial first-differenced observation
xi0 it then holds that
i.i.d.

xi0 (0, ),

(15)

whose variance can be expressed as a function of the variance of the initial

observation:
= (I A)0 (I A) + 

(16)

Also, we define
xi = (
xi1 ,
xi2 , ...,
xiT ) and i = (
xi1 , i2 , ..., iT ).
The variance of i is
6

If the process has been in operation for a very long time, one can write (11) as
i0 =

Aj i,j .

(12)

j=0

This proves useful for the technical implementation of the process initialization in our Monte Carlo
simulation.

12


0
...
0
 2 

0
...

 2  0

=
.

...

...
0  2 
0
...
0
 2

With

(17)

I
0 ...
0
A I 0 ...

R=
(18)
,

...
0 ...
A I
P
xi
x0i , we follow the same steps
x = R1 R0 1 and SN,x = N1 N
i=1
as Binder et al. (2005) and argue:
The MIDAS-PVAR-QML estimator = (vec(A)0 , vech( )0 , vech()0 )0 can be
obtained by maximizing the following log-likelihood function based on the joint probability distribution of (
xi1 ,
xi2 ...,
xiT ):
(m + 1)N T
N
N
log(2) log| | tr(1
(19)
x ).

x SN,
2
2
2
With m as the number of HF observations per LF period, the dimensionality has
been adjusted for the MIDAS case. It follows from Binder et al. (2005) that this
MIDAS-PVAR-QML estimator is consistent and asymptotically efficient.
ll =

4.2

Monte Carlo Simulation: Data-Generating Process

Before taking this unconditional MIDAS-PVAR-QML estimator to the data on inequality and output growth, we intend to gain some insights into its performance by
conducting a Monte Carlo simulation. The programming is carried out in Mata in
Stata.
Concerning the data generating process for the simulation, we will specialize the
MIDAS-PVAR (6) so that it captures important characteristics of cross-country data
of output growth and inequality. For instance, while we allow for Granger causality
from inequality to output growth and vice versa, there is no nowcasting causality in
either direction.7 This implies that both the last row and the last column of Ac ,
7

That inequality and output growth only affect each other with a lag both reflects the consensus
in the literature and findings from our data set: As we will show later, the parameter estimate of

13

except for the last entry of 1, only contain zeros. As regards the dimensionality
of the model, we settle on m = 4, as we do in the empirical application, thus the
HF variable is observed four times in every LF period t.8 With the country-specific
fixed effects c0i and a deterministic time trend c1 we have the following structural
MIDAS-PVAR, 1 i N, 1 t T :
H,1
xit
1
0
0 0 0

1
0 0 0 xH,2

2
it
(20)

1 0 0 xH,3

it

2 1 0 xH,4
it
0
0
0 0 1
xL
it
0 1
4 3 2
H,1 H,1
xi,t1
u
ciH
cH

a
H,2
it
H,2
c0 c1
0 4 3 2

x
HL,2 a i,t1
iH H

uit

H,3
H,3
= c0iH + c1H t + 0 0 4 3 HL,3 a
u ,
xi,t1 +
0 1

it

H,4
4
ciH cH
0 0 0 HL,4 a xi,t1 uH,4

it
0
1
L
L
ciL
cL
b1 b2 b3 b4

uit
xi,t1

with a = a0 + a1 cond.
The interpretation of the parameters involved in (20) are as follows:
1. Our main parameters of interest are a, HL,2 , HL,3 and HL,3 because they
determine the impact of the lagged LF variable (inequality in our application)
on the HF variable (output growth) in the current periods four subperiods.
While a captures this impact in the first subperiod, the scaling factors HL,2 ,
HL,3 and HL,4 allow for the effect to vary over subperiods. Through the
conditioning functional, a itself involves the two parameters a0 (independent
of the conditioning variable cond) and a1 , capturing the impact of cond on the
effect of the LF variable on the HF variable. By setting a1 equal to 0, one
can shut down the influencing channel of the conditioning variable and end up
with a linear model again.
2. b1 , b2 , b3 and b4 determine the impact of the lagged HF variable on the current
period LF variable and can be viewed as unrestricted aggregation weights.9
the covariance between inequality and output growth is not significantly different from zero.
8
Additional simulations have shown that the estimator performs similarly with a different m.
9
We leave the four parameters b1 , b2 , b3 and b4 unrestricted instead of specifying them in the

14

3. The HF variable follows an AR(4)-process with autoregressive coefficient .

Hence, the HF variable in a given subperiod depends on its realization of
the previous subperiod by , in the subperiod before by 2 and so on, up to
four subperiods back, which refers to the same subperiod in the previous LF
period. Actually, the HF lag order of four is the highest that can be modeled in
a MIDAS-PVAR with one lag and m = 4. Note that the coefficient restrictions
in both Ac and A1 need to be imposed to ensure that all HF observations of
all subperiods depend on their previous subperiods in the same way, whether
or not these observations occur at the beginning or the end of an LF period.
4. The LF variable follows an AR(1)-process with autoregressive coefficient ,
thus depending on its observation in the previous LF period.
5. This being a structural PVAR, the variance-covariance matrix of the disturbance vectors is diagonal. With HH , the variance of the HF variable (assumed
to be the same in each subperiod) and LL , the variance of the LF variable,
we have:

HH
0
0
0
0
0
HH
0
0
0

0
u = E(uit uit ) = 0
(21)
0
HH
0
0 .

0
0
0
HH
0
0
0
0
0
LL
In order to obtain the reduced-form model for our estimation, we multiply the
structural form (20) by

A1
c

1
0

1

2
= 2

3
4 22
0
0

0
0
1

0
0
0
1
0

0
0

0 .

0
1

(22)

classical MIDAS way as an exponential Almon Lag or a Beta Lag. Although these specifications
would save one parameter to estimate, they would entail an additional complexity in estimation by
introducing yet another nonlinearity. Leaving the three parameter weights unrestricted can also be
considered a U-MIDAS model as proposed by Foroni et al. (2012).

15

The resultant reduced-form MIDAS-PVAR is

H,1 0 1
xit
ciH
cH
xH,2 c0 c1
it iH H
H,3 0 1
xit = ciH + cH t
H,4 0 1
xit ciH cH
c0iL
c1L
xL
it
4
H,1 H,1
xi,t1
it

3 2

a
H,2

5 24 23 22 a
H,2
x

i,t
HL

i,t1

6
+ H,3
+ 2 35 44 43
a
xH,3
,
HL
i,t1

H,4
it
7

H,4
4 66 75 84

it
HL a xi,t1
b1
b2
b3
b4

L
xL
it
i,t1

(23)

where, for {c0iH ; c1H }, = ( + 1) , = (22 + + 1) , =

2

(43 + 22 + + 1) , as well as
HL = + HL,2 , HL = 2 + HL,2 + HL,3
3
2
and
HL = 4 + 2 HL,2 + HL,3 + HL,4 .
The variance-covariance matrix of the disturbance vector of this reduced-form
MIDAS-PVAR is
0

1
 = E(t 0t ) = A1
c u Ac

HH
HH

2
( + 1) HH
HH

2
= 2 HH (23 + ) HH
3
4 HH (44 + 22 ) HH
0
0

22

HH
+ ) HH
4
(4 + 2 + 1) HH
(85 + 23 + ) HH
0
(23

43

HH
+ 22 ) HH
(85 + 23 + ) HH
(166 + 44 + 2 + 1) HH
0
(44

Hence, the number of parameters to estimate in our Monte Carlo simulation is

15 for the nonlinear model and 14 for the linear model (with a1 set to zero).
The true parameter values of the underlying data generating process are chosen so
that the real parts of the eigenvalues of the autoregressive matrix A in (23) are less
than one in absolute values, which ensures (trend-)stationarity. At the same time
we attempt to represent stylized features of inequality and output growth data, in
particular a high persistence of the former ( = 0.8). We work with three different
parameter combinations to evaluate the performance of the estimator in different
16

0
0
0
0

(24)

LL

plausible environments. With 50 cross-sectional units10 and 5 LF time periods, we

create an appropriate "Small T , large N " setting. Our time-constant conditioning
variable is drawn from a normal distribution across the cross-sectional units. For
our simulations, we contour initialization problems by letting the data generating
process run for 50 periods, which we discard, before we obtain the 5 observations
per cross-sectional unit to be used for the estimation. 2000 repetitions are conducted.
While the data generating process in our simulation is the MIDAS-PVAR from
(23), the performance of the MIDAS-PVAR-QML estimator can best be appreciated
in comparison to a classical PVAR-QML estimator that uses all the data only at the
low frequency. Intertemporally averaging the HF data to form a bivariate LF-only
PVAR gives
!
!
!
!
!
!
xH,av
c0i1
c11
av a
H,av
xH,av
i,t1
it
it
=
+ 1 t+
+
,
(25)
c0i2
c2
b
xL
L
xL
it
it
i,t1
with a = a0 + a1 cond.
For the LF-only model the variance-covariance matrix of the error terms is
!
11 21
0
E(t t ) =
(26)
21 22
and there are 9 (10) parameters to estimate in the (non-)linear specification.11

4.3

Monte Carlo Simulation: Results

Tables (1), (2) and (3) show the three different parameter combinations ("true
value") and present performance indicators of the MIDAS-PVAR-QML and LF-only
PVAR-QML estimators, namely the bias, root mean squared error and ratio of the
estimated standard error to the standard deviation over the 2000 replications. Both
the largest eigenvalue and the VAR Model R2 by Pesaran et al. (2000) give insights
10

Additional simulation results suggest, not surprisingly, that the performance of the MIDASPVAR-QML estimator is further enhanced when N is increased to 200, but keeping N at a moderate
magnitude is more relevant to us in the light of our empirical data set.
11
The 21 parameter should be zero if the data generating process is correct and there is no
contemporaneous impact of either variable on the other. In the empirical application we will
estimate 21 in order to verify this assumption.

17

into the persistence of the process.12 While the data generating process involves the
conditioning variable, we estimate the model using both the nonlinear and linear
variants of the estimator, where the latter restricts a1 to zero.
Looking at the parameter combinations of the first setting in Table (1), we note
a negative impact of the lagged LF variable on the HF variable (a0 = 0.4), which
varies over the HF subperiods, as HL,2 , HL,3 and HL,4 indicate. Also, this impact
depends negatively on a conditioning variable (a1 = 0.2).
The performance indicators of the nonlinear MIDAS-PVAR-QML estimator in this
setting are very convincing overall, showing only very small biases and ratios of
the standard error to standard deviation which are close to 1. It is not surprising
that due to its misspecification the linear MIDAS-PVAR-QML estimator exhibits
slightly larger biases, in particular for and . However, it still does fairly well (and
for a few parameters its estimates are even closer to the true parameters than the
nonlinear estimates). Turning to the LF-only estimator, we find evidence for our
argument that working with averages entails a loss of information that can distort
the estimation result. Several parameters are estimated with larger biases, the most
sizable being a0 , which is even closer to -0.5 than to its true value of -0.4.13 Even
if the LF-only estimator manages to come slightly closer to the true a1 -value in
measuring the dependence on the conditioning variable, its MIDAS counterpart is
clearly preferable. One should also not forget that the latter can adequately estimate
a time-varying impact of the LF variable on the HF variable in different subperiods,
which the LF-only estimator, by construction, cannot.
Table (2) shows the second parameter setting, which is characterized by different
time trends for the HF and LF variables, a stronger HF persistence parameter ,
12

The VAR Model R2 by Pesaran et al. (2000) is computed as

[ ]ss
2
= 1 P
,
Rx
it
[ j=0 Cj  C0j ]ss

(27)

with C0 = I, C1 = (I A) and Cj = Cj A, j = 2, 3, ... and [G]ss denoting the s-th diagonal entry
of the matrix G. It is smaller than 1 for a (trend-)stationary process but increases with persistence.
13
One should keep in mind that not all MIDAS parameters have counterparts in the LF-only
process and vice versa: For instance, the LF-only AV parameter is the autoregressive coefficient
for the averaged HF value and cannot be compared to the intra-LF autocorrelation coefficient
of the HF variable in the MIDAS model. Moreover, b, which captures the lagged impact of the
average HF variable on the LF variable, would be equivalent to the sum of b1 , b2 , b3 and b4 in the

2
MIDAS model, and 11 = 4 41 HH . This has been taken into account in the column of the
"true value".

18

Parameter

True
Value

c1H
c1L

a0
a1
HL,2
HL,3
HL,4
b1
b2
b3
b4

HH
LL

0.1
0.1
0.2
-0.4
-0.2
1.2
0.8
1
0.1
0.1
0.2
0.4
0.8
0.01
0.01

Parameter

True
Value

Nonlinear MIDAS
Bias
RMSE
SE/SD
0.0038
0.0012
-0.0014
-0.0111
0.0210
-0.0023
0.0064
0.0013
-0.0008
-0.0024
0.0037
0.0031
-0.0038
-0.0000
-0.0002

0.0110
0.0193
0.0274
0.0350
0.0563
0.0412
0.0382
0.0360
0.0706
0.0687
0.0739
0.0678
0.0570
0.0005
0.0010

0.9526
0.9734
0.9404
0.9802
0.9550
0.9890
0.9897
0.9845
0.9533
0.9887
0.9552
0.9506
0.9622
0.9740
0.9537

Nonlinear LF-only
Bias
RMSE
SE/SD

c11
0.1
0.0264
0.0252
0.9817
c12
0.1
0.0105
0.0223
0.9653
0.9942
av
a0
-0.4
-0.0920
0.0982
0.9950
a1
-0.2
-0.0143
0.0642
0.9575
b
0.8
-0.0098
0.0758
0.9848

0.8
-0.0233
0.0628
0.9627
0.0025
0.0012
0.0037
0.9852
11
0
0.0002
0.0005
0.9949
21
22
0.01
0.0005
0.0012
0.9544
Largest Eigenvalue of A in the DGP: 0.4408
Model R2 (see (27)): 0.6041

Bias

Linear MIDAS
RMSE
SE/SD

0.0052
0.0026
-0.0108
-0.0134
-0.0034
0.0031
0.0010
-0.0008
-0.0018
0.0013
-0.0017
-0.0085
0.0001
-0.0003
Bias

0.0131
0.0192
0.0295
0.0403
0.0423
0.0392
0.0363
0.0697
0.0680
0.0730
0.0667
0.0570
0.0005
0.0010

0.8186
0.9769
0.9193
0.8599
0.9721
0.9614
0.9837
0.9531
0.9859
0.9538
0.9559
0.9635
0.9658
0.9658

Linear LF-only
RMSE
SE/SD

0.0274
0.0124
-0.1010
-0.0182
-0.0302
0.0015
0.0001
0.0004

0.0307
0.0231
0.1092
0.0761
0.0650
0.0035
0.0005
0.0011

0.8192
0.9667
0.9882
0.8369
0.9873
0.9651
0.9586
1.0075
0.9695

Table 1: MC Setup 1: Parameter estimates of the MIDAS-PVAR-QML estimator (based on (23) and (24))
and the traditional LF-only PVAR-QML estimator (based on (25) and (26)), respectively in the nonlinear
and linear (a1 = 0) variants. The data generating process is of the nonlinear MIDAS-PVAR form with N =
50 and T =5. 2000 repetitions are conducted. The bias is calculated as the average parameter estimate
minus the true value. RMSE stands for the root mean squared error and SE/SD measures the ratio of the
estimated standard error to the standard deviation of the estimator over the 2000 replications.

negative b-parameters and a high positive a0 for the lagged impact of the LF on
the HF variable, while the dependence on the conditioning variable is still negative
(a1 ). We can see that the performance is rather similar to the first setting. But
while the nonlinear MIDAS-PVAR-QML estimator continues to do well, its linear
counterpart does hardly worse, which may be due to the smaller magnitude of the a1 .
Concerning the LF-only estimator, its bias in estimating a0 is even more severe than
in the first setting - leading to an estimate of around 0.97 rather than 0.7 - although
19

some other parameters are estimated rather well. We conclude that this distortion of
LF-only estimator seems to increase with the magnitude of the a0 -parameter, while
the MIDAS estimator does not show such a problem.
Parameter

True
Value

c1H
c1L

a0
a1
HL,2
HL,3
HL,4
b1
b2
b3
b4

HH
LL

0.2
0
0.3
0.7
-0.1
1.2
0.8
1
-0.1
-0.1
-0.1
-0.1
0.8
0.01
0.01

Parameter

True
Value

Nonlinear MIDAS
Bias
RMSE
SE/SD
0.0054
0.0019
0.0013
0.0226
0.0032
-0.0054
0.0157
0.0006
-0.0094
0.0056
-0.0090
-0.0053
-0.0013
-0.0001
-0.0004

0.0114
0.0234
0.0199
0.0466
0.0582
0.0374
0.0357
0.0343
0.0800
0.0723
0.0758
0.0678
0.0755
0.0006
0.0010

0.9659
0.5508
0.7424
0.9723
0.9467
0.9781
0.9840
0.9812
0.8080
0.9442
0.9389
0.9240
0.7308
0.8222
0.9669

Nonlinear LF-only
Bias
RMSE
SE/SD

c11
0.2
0.0749
0.0756
0.9811
c12
0
-0.0009
0.0161
0.7577
0.9044
av
0.7
0.2713
0.2745
0.9575
a0
a1
-0.1
-0.0324
0.0852
0.9445
-0.4
-0.0016
0.0623
0.7058
b

0.8
-0.0049
0.0621
0.8591
11
0.0025
0.0022
0.0037
0.9746
0
0.0000
0.0005
0.9880
21
22
0.01
-0.0001
0.0010
0.9795
Largest Eigenvalue of A in the DGP: 0.5646
Model R2 (see (27)): 0.7226

Bias

Linear MIDAS
RMSE
SE/SD

0.0048
0.0013
0.0030
0.0250
-0.0052
0.0149
0.0006
-0.0084
0.0056
-0.0084
-0.0046
-0.0029
-0.0001
-0.0004
Bias

0.0112
0.0230
0.0197
0.0468
0.0374
0.0355
0.0339
0.0792
0.0715
0.0755
0.0675
0.0742
0.0006
0.0010

0.9526
0.5579
0.7510
0.9503
0.9825
0.9844
0.9992
0.8135
0.9526
0.9404
0.9260
0.7421
0.8266
0.9685

Linear LF-only
RMSE
SE/SD

0.0751
-0.0014
0.2734
-0.0000
-0.0066
0.0024
0.0005
-0.0001

0.0758
0.0157
0.2767
0.0596
0.0616
0.0052
0.0005
0.0010

0.9579
0.7777
0.9260
0.9230
0.7349
0.8660
0.9783
0.9916
0.9810

Table 2: MC Setup 2: Parameter estimates of the MIDAS-PVAR-QML estimator (based on (23) and (24))
and the traditional LF-only PVAR-QML estimator (based on (25) and (26)), respectively in the nonlinear
and linear (a1 = 0) variants. The data generating process is of the nonlinear MIDAS-PVAR form with N =
50 and T =5. 2000 repetitions are conducted. The bias is calculated as the average parameter estimate
minus the true value. RMSE stands for the root mean squared error and SE/SD measures the ratio of the
estimated standard error to the standard deviation of the estimator over the 2000 replications.

Our conclusions from the first two settings are confirmed in the third one, where
a0 and a1 are both of the same magnitude, the impact of the lagged LF variable on
the HF variable varies more over the subperiods and there is no feedback from the
lagged HF variable on the LF variable, i.e. the b-parameters are zero. The bias of
20

the LF-only PVAR-QML estimator is smaller than in the second setting but it is still
notable. All the while, the MIDAS-PVAR-QML estimator performs convincingly.
Parameter

True
Value

c1H
c1L

a0
a1
HL,2
HL,3
HL,4
b1
b2
b3
b4

HH
LL

0.1
0.1
0.2
0.2
0.2
1.5
1
0.5
0
0
0
0
0.8
0.01
0.01

Parameter

True
Value

Nonlinear MIDAS
Bias
RMSE
SE/SD
-0.0023
0.0071
-0.0035
0.0064
-0.0010
0.0004
0.0004
-0.0005
-0.0022
0.0015
-0.0018
0.0032
-0.0146
-0.0000
-0.0003

0.0194
0.0556
0.0297
0.0389
0.0708
0.1201
0.0548
0.1159
0.0715
0.0697
0.0728
0.0724
0.0932
0.0005
0.0010

0.9775
0.9825
0.9816
0.9641
0.9453
0.9497
0.9992
0.9330
0.9785
0.9993
0.9697
0.9676
0.9804
0.9883
0.9759

Nonlinear LF-only
Bias
RMSE
SE/SD

c11
0.1
0.0173
0.0338
0.9838
c12
0.1
0.0070
0.0547
1.0017
av
1.0076
a0
0.2
0.0497
0.0687
0.9893
0.2
0.0408
0.0963
0.9611
a1
b
0
0.0036
0.1168
1.0068
0.8
-0.0161
0.0931
0.9913

11
0.0025
0.0011
0.0064
0.9654
21
0
0.0000
0.0004
0.9888
0.01
-0.0001
0.0010
0.9843
22
Largest Eigenvalue of A in the DGP: 0.8000
Model R2 (see (27)): 0.5266

Bias

Linear MIDAS
RMSE
SE/SD

-0.0050
0.0072
0.0075
0.0035
0.0168
-0.0039
-0.0214
-0.0023
0.0016
-0.0018
0.0035
-0.0149
0.0001
-0.0003
Bias

0.0216
0.0558
0.0305
0.0421
0.1609
0.0567
0.1554
0.0716
0.0699
0.0728
0.0726
0.0933
0.0005
0.0010

0.9057
0.9827
0.9691
0.8896
0.7801
0.9957
0.7793
0.9777
0.9986
0.9702
0.9667
0.9791
0.9941
0.9759

Linear LF-only
RMSE
SE/SD

0.0120
0.0069
0.0464
0.0055
-0.0170
0.0013
0.0000
-0.0001

0.0336
0.0548
0.0699
0.1180
0.0933
0.0062
0.0005
0.0010

0.9213
1.0026
1.0037
0.9074
1.0093
0.9904
0.9687
0.9888
0.9850

Table 3: MC Setup 3: Parameter estimates of the MIDAS-PVAR-QML estimator (based on (23) and (24))
and the traditional LF-only PVAR-QML estimator (based on (25) and (26)), respectively in the nonlinear
and linear (a1 = 0) variants. The data generating process is of the nonlinear MIDAS-PVAR form with N =
50 and T =5. 2000 repetitions are conducted. The bias is calculated as the average parameter estimate
minus the true value. RMSE stands for the root mean squared error and SE/SD measures the ratio of the
estimated standard error to the standard deviation of the estimator over the 2000 replications.

After this Monte Carlo simulation, which has highlighted the benefits of working
with a MIDAS model rather than LF-only averages, we are now ready to take our
MIDAS-PVAR modeling technique to the data and see whether we can gain new
insights on the relation between inequality and output growth.

21

Empirical Application: MIDAS-PVAR of Inequality

and Output Growth Data

5.1

The data set

When constructing a cross-country panel data set on income inequality and output growth, one comes across the well-known problem that the data has to fulfill
the conflicting goals of comparability and wide coverage across countries and years.
High quality data on inequality is particularly hard to come by; even data sets compiled by the United Nations and the World Bank combine data income definitions
that vary over countries and years.14 Relying on high-quality, comparable inequality
data would reduce the sample significantly and favor developed countries. However, recently, a new data set has been created by Solt (2009): The Standardized
World Income Inequality Database (SWIID) combines and standardizes inequality
data from various sources (including United Nations Universitys World Income Inequality Databases, The World Banks PovcalNet, Eurostat, Luxembourg Income
Study and national statistical offices). In the standardization procedure missing
data are imputed based on other variables and sources, taking into account data
uncertainty.15 An additional advantage is that the SWIID database is so new - we
will use version 4.0 which was released in September 2013 - that it is not used in
other studies we are aware of. Hence, we will take gini, the Gini coefficient of income
inequality after taxes and transfers, from SWIID.
In order to compute output growth, we rely on the Penn World Tables 8.0 (Feenstra et al., 2013), which is a standard choice in cross-country growth regressions. We
divide the rgdp(na) (real gross domestic product using national accounts) variable
by the population size, pop. By taking the natural logarithm and computing yearon-year first differences, we obtain the annual output growth rate, growth. In levels,
the GDP variable, income, will also be used as the conditioning variable in the nonlinear specification. To ensure exogeneity of the conditioning variable, we will take
14

Varying definitions include income inequality measured before or after taxes and transfers,
income inequality at the household or individual level, inequality of the whole country or only the
urban population and so forth.
15
In fact, SWIID presents 100 imputed values considered plausible for every country every year.
We will work with the arithmetic mean of these 100 imputations. An explorative study shows
that our results would hardly change if we carried out the estimation with each of the 100 values
separately and averaged the estimation results.

22

income-values from the year 1989 (the beginning of our sample period), demean it
cross-sectionally and standardize it so that it measures income per capita relative to
the worldwide sample. We proceed analogously with the other conditional variables
that we use in additional specifications, namely humancap and democracy. The former is the human capital index from the Penn World Tables 8.0 see (Feenstra et al.,
2013), representing an educational index, while democracy, the index of democratic
rule as captured by the Polity IV index (Marshall et al., 2013), might be seen in the
context of redistributive pressure for distortionary taxation.
Concerning our main variables of interest, we confirm that in our combined data
set growth tends to be available for every year, in contrast to gini, which even in
the extensive SWIID database does not have values for all countries continuously
throughout the years. And in those countries with yearly gini observations, there
is hardly any variation in adjacent years. This makes our choice of a MIDAS model
with growth observed yearly and gini observed on a multiple-year horizon appropriate.
As regards the length of this horizon, we experiment with 3-year, 4-year and 5-yearperiods in order to strike the right balance between sufficient time variation of the
Gini variable and the number of countries included in a balanced panel. As our
MIDAS-PVAR-QML estimator works with a model in first differences, we have to
take first differences of growth and gini over the LF periods, requiring the availability of observations even further back. Settling on a 4-year LF horizon leaves
us with a balanced panel of 63 countries and five quadrennial time periods from
1989 to 2008, which we can estimate appropriately with our "short T , large N "
MIDAS-PVAR-QML estimator.16
As Table (7) in the Appendix shows, our sample includes countries from every
region of the world. OECD-countries (26 out of 63) and Non-OECD countries are
equally well-represented. The average Gini coefficients and average yearly output
growth rates across the 1989 to 2008 sample period reveal strong cross-sectional
variation. Mauritius is the country with the most egalitarian income distribution on
average (0.1746), closely followed by the Scandinavian countries with Gini coefficients
in the low 0.20s. Countries with average Gini coefficients higher than 0.50 during
16

For reasons of comparability of the alternative specifications we only include countries where
we have observations of all growth, gini, income, humancap and democracy. In line with other
cross-country studies, we drop Venezuela for being an oil producer and both Rwanda and Sierra
Leone due to civil wars in the years covered. Robustness checks show that including these countries
into the sample (or dropping some others) would not qualitatively affect the conclusions.

23

the sample period tend to be located in Latin America (e.g. Brazil), Sub-Saharan
Africa (e.g. South Africa) or Asia (e.g. Thailand). The average output growth rate
also varies widely: As it is well-known from the literature, there are a few African
countries (such as Zambia) that exhibited negative growth across the years from
1989 to 2008, while at the other end of the spectrum output in China grew at 8.5%
per year. While Table (7) does not suggest a simple, stylized association between
inequality and output growth on the cross-sectional basis, let us now estimate the
relation in the MIDAS-PVAR.

5.2

Empirical Estimation Results

Table (4) shows the MIDAS-PVAR-QML estimation results for both the nonlinear
and the linear variant of the model, where the former lets the impact of lagged inequality on output growth depend on a countrys income per capita level, while the
latter sets this dependence to zero (a1 = 0). Like in the Monte Carlo simulation,
the table also shows the estimation results from a traditional LF-only PVAR, which
is formed by taking four-year averages of output growth so that both variables are
measured at the same low frequency. The comparison can thus directly reveal the
additional insight gained from making use of all available information in the MIDAS
way.
Both the MIDAS and the LF-only results show a significantly positive trend in output growth (c1H and c11 ) but not in inequality (c1L and c12 ). The MIDAS results also
show that output growth is mildly persistent with an AR-coefficient of around 0.3
from year to year, vanishing within the four-year horizon. Inequality, by contrast, is
much more persistent even at the quadrennial frequency; with an estimated value of
0.78, is even higher in the MIDAS case than in the LF-only estimation.
Let us now turn to the most important parameters for us, a0 and a1 , which are
highlighted in bold. The linear MIDAS-PVAR-QML estimator gives a positive but
insignificant result for a0 , not allowing us to draw a conclusion on how inequality
affects output growth. But when we turn to the nonlinear MIDAS specification and
let the impact of lagged inequality on output growth depend on income per capita,
its a1 coefficient is significantly negative at the 95% confidence level. The a0 coefficient turns negative, however, it remains insignificant. So there is no significant
effect of inequality on output growth independent of the development level. Rather,
inequality affects output growth differently depending on whether a country is rich
or poor and this effect is more detrimental in wealthier countries. Crucially, we

24

cannot find this result when only working with LF-only data: The a1 -parameter of
the nonlinear LF-only PVAR-QML estimator is insignificant, just like a0 . In order
to reveal the intricate impact of inequality on output growth depending on income
per capita, taking a model to LF-only data is not enough but one needs to make
optimal use of all available data rather than averaging them.
Parameter
c1H

Linear
Nonlinear
ParaLinear
Nonlinear
MIDAS
MIDAS
meter
MIDAS
MIDAS
0.0011
0.0010
b1
0.0185
0.0085
(0.0005)
(0.0004)
(0.0713)
(0.0708)
c1L
0.0004
0.0005
b2
0.3029
0.2980
(0.0005)
(0.0006)
(0.0658)
(0.0655)

0.2818
0.2798
b3
-0.0811
-0.0811
(0.0210)
(0.0207)
(0.0809)
(0.0785)
0.0779
-0.0548
b4
-0.0492
-0.0572
a0
(0.0492)
(0.0472)
(0.0798)
(0.0792)
a1
-0.1031

0.7804
0.7823
(0.0491)
(0.0784)
(0.0793)
HL,2
-0.3395
-0.9518
HH
0.0010
0.0010
(0.6672)
(0.6647)
(0.0000)
(0.0000)
HL,3
-0.0834
-0.1594
LL
0.0013
0.0013
(0.6359)
(0.4793)
(0.0001)
(0.0001)
-0.6217
-0.9656
HL,4
(0.8072)
(0.6949)
Likelihood Ratio Test Statistic of Linear vs. Nonlinear Model: 9.08 (3.48)

Parameter
c11

Linear
Nonlinear
ParaLinear
Nonlinear
LF-only
LF-only
meter
LF-only
LF-only
0.0013
0.0011
b
0.2586
0.2611
(0.0006)
(0.0006)
(0.1245)
(0.1255)
c12
0.0003
0.0003

0.7649
0.7669
(0.0005)
(0.0005)
(0.0760)
(0.0766)
av
0.1394
0.1407
11
0.0004
0.0004
(0.0740)
(0.0740)
(0.0000)
(0.0000)
a0
-0.0104
0.0156
12
-0.0001
-0.0001
(0.0357)
(0.0546)
(0.0000)
(0.0001)
a1
0.0235
22
0.0013
0.0013
(0.0373)
(0.0001)
(0.0001)
Likelihood Ratio Test Statistic of Linear vs. Nonlinear Model: 0.40 (3.48)

Table 4: Parameter estimates of the MIDAS-PVAR-QML estimator (based on (23) and (24)) and the
traditional LF-only PVAR-QML estimator (based on (25) and (26)), respectively in the nonlinear and linear
(a1 = 0) variants. growth is the HF variable, gini the LF variable and income the conditioning variable.
The complete sample with N = 63 and T = 5 is used. Standard errors are given in parentheses. , and
denote significance at the 90%, 95% and 99% level. For the likelihood ratio test, the critical value at
the 95% confidence level is given in brackets.

25

As regards the remaining parameters, the impact of inequality on output growth

does not seem to be time-varying across subperiods. Moreover, when it comes to
the effect in the other direction, only b2 is significantly different from zero. One
might think of business cycle effect as a possible explanation for why output growth
from this subperiod leads to rising inequality. Finally, it is noteworthy that for
both the MIDAS and LF-only models, the estimates for most parameters hardly
differ between the linear and nonlinear specifications. But for our main parameter
of interest, conditioning on income per capita is vital in the MIDAS model. In
this context, a likelihood ratio test is insightful: We make use of the fact that the
linear case is nested in the nonlinear model, imposing the restriction a1 = 0. With
loglikeR and loglikeU referring, respectively, to the log-likelihood of the restricted
and unrestricted model of the MIDAS-PVAR, the test statistic is
= 2 (loglikeR loglikeU ) = 2 (2941.92 2946.46) = 9.08.

(28)

Since the test statistic follows a 2 -distribution with one degree of freedom,
whose critical value at the 95% confidence level is 3.48, we reject the null hypothesis
of a1 = 0. Hence, the likelihood ratio test offers further evidence of the importance
of conditioning on income in the MIDAS-PVAR. In the LF-only estimation, however,
the likelihood ratio test does not favor the nonlinear model: With a test statistic of
0.40, one cannot reject the null hypothesis that the linear variant is correct. This
goes in line with the insignificance of a1 in the LF-only PVAR.
Concerning the magnitude of the results, one can interpret the MIDAS-PVAR-QML
estimates of a0 and a1 estimates as follows: Increasing the Gini coefficient by 10 percentage points - for instance from 0.30 to 0.40 - would decrease yearly output growth
by 0.55 percentage points on average, but this effect is not significantly different from
zero. However, the significant a1 implies that increasing the Gini coefficient by 10
percentage points and simultaneously moving the income per capita level one standard deviation upwards from sample mean - for instance from the level of Argentina
to the one of Belgium - decreases yearly output growth by 1 percentage point.
By finding that inequality affects output growth in a nonlinear way, with more
detrimental effects in wealthier countries, we confirm some results of other studies,
at least to some extent: We underline that the impact of inequality on output growth
is nonlinear, as Banerjee and Duflo (2003). Like Barro (2000) in his linear model, we
find that a countrys income level is important. This leads to the question whether
our results will remain if we split the sample into poor and rich countries. In particu26

lar, we repeat the estimation with the 26 OECD and 37 Non-OECD countries of our
sample separately. The estimation results for the MIDAS and LF-only estimations
are presented in Tables (5) and (6).
Parameter
c1H

Non-OECD (N = 37)
Linear MIDAS Nonlinear MIDAS

0.0032
(0.0007)
c1L
-0.0009
(0.0011)

0.2427
(0.0297)
a0
0.0711
(0.0595)
a1
HL,2
-0.6868
(1.0198)
-0.2358
HL,3
(0.8795)
HL,4
-0.6701
(1.0689)
b1
0.0348
(0.0960)
b2
0.3715
(0.0881)
-0.0489
b3
(0.1128)
0.0099
b4
(0.1083)

0.7898
(0.0975)
HH
0.0013
(0.0001)
LL
0.0019
(0.0002)
Non-OECD: Likelihood Ratio

OECD (N = 26)
Linear MIDAS Nonlinear MIDAS

0.0030
-0.0014
-0.0016
(0.0007)
(0.0005)
(0.0004)
-0.0008
0.0005
0.0005
(0.0011)
(0.0006)
(0.0006)
0.2436
0.3312
0.3262
(0.0288)
(0.0256)
(0.0258)
-0.0329
0.0580
0.0521
(0.0523)
(0.1111)
(0.0907)
-0.1349
-0.0530
(0.0648)
(0.0862)
-0.7021
2.2898
3.0482
(0.5416)
(4.6197)
(4.9997)
0.0006
1.9065
0.2528
(0.4635)
(3.8416)
(2.4531)
-0.9571
-1.8076
2472.84
(0.6394)
(4.2706)
(1.9531)
0.0318
-0.0005
0.0043
(0.0948)
(0.0805)
(0.0784)
0.3728
-0.0428
-0.0305
(0.0878)
(0.0738)
(0.0723)
-0.0365
0.0255
-0.0145
(0.1095)
(0.0887)
(0.0893)
-0.0217
-0.0960
-0.0414
(0.1079)
(0.0981)
(0.0977)
0.7966
0.7986
0.7945
(0.1079)
(0.1197)
(0.1196)
0.0013
0.0004
0.0004
(0.0001)
(0.0000)
(0.0000)
0.0019
0.0002
0.0002
(0.0002)
(0.0000)
(0.0000)
Test Statistic. of Lin. vs. Nonlin. Model: 8.46 (3.48)

OECD: Likelihood Ratio Test Statistic. of Lin. vs. Nonlin. Model: 0.96 (3.48)

Table 5: MIDAS Results for the split sample: Parameter estimates of the MIDAS-PVAR-QML estimator
(based on (23) and (24)) in the nonlinear and linear (a1 = 0) variants. growth is the HF variable, gini the
LF variable and income the conditioning variable. Standard errors are given in parentheses. , and
denote significance at the 90%, 95% and 99% level. For the likelihood ratio test, the critical value at the
95% confidence level is given in brackets.

27

Table (5) shows that within the Non-OECD sample, the negative coefficient of
income as a conditioning variable for the impact of inequality on output growth stays
significant. Its magnitude has even increased. Interestingly, this is not the case in
the OECD sample, where a1 also has a negative sign but is insignificant. A possible
explanation is that within the OECD group of industrialized countries, income differences lose importance. But among Non-OECD countries, which may be on widely
varying steps along the development path, income is a vital determinant for how
inequality affects output growth. Hence, we are confirmed that modeling nonlinearities with a conditioning functional is a more nuanced way of expressing dependence
on income and is not equivalent to a simple sample split into poor and rich countries.
It is also noteworthy that these results can only be obtained from the MIDAS
specification: The LF-only results of the impact of inequality on output growth in
Table (6) are insignificant both for OECD and Non-OECD countries, confirming our
conclusion about the importance of mixed-frequency sampling rather than averaging.
Let us come back to the beginning of this paper, where we summarized the possible channels through which inequality might affect output growth, and ask ourselves
how one can view our results in this context. Most or all of these channels could be
present but our results might lead to the conclusion that their relative importance
changes as countries grow richer, with some of the potential negative influences of
inequality on output growth growing stronger. They might lend some weight to the
argumentation by Galor and Moav (2004) that developing countries can benefit from
the rich individuals facilitating investment in physical capital, while in industrialized,
human-capital based economies inequality and inegalitarian access to education are
more detrimental. In order to gain more insight into the individual channels at work,
we repeat our MIDAS-PVAR of inequality and output growth, using not income but,
respectively, humancap and democracy as conditional variables. humancap is the
human capital index from the Penn World Tables 8.0 see (Feenstra et al., 2013),
representing an educational index, and democracy is the index of democratic rule
as captured by the Polity IV index (Marshall et al., 2013), which might be seen in
the context of redistributive pressure for distortionary taxation in democracies. The
results are shown in Table (8) in the Appendix. They reveal that, as expected, the
a1 -coefficient shows a negative sign, but it is insignificant in the case of conditioning
on humancap and only marginally significant at the 90% confidence level in the case
of conditioning on democracy. Hence, there really seems to be an interplay of many
28

Parameter

Non-OECD (N = 37)
Linear LF-only
Nonlinear LF-only

c11

0.0034
(0.0009)
-0.0012
c12
(0.0011)
av
0.1131
(0.0948)
a0
-0.0141
(0.0405)
a1
b
0.4612
(0.1776)

0.7668
(0.0973)
11
0.0005
(0.0001)
-0.0001
12
(0.0001)
22
0.0020
(0.0002)
Non-OECD: Likelihood Ratio

OECD (N = 26)
Linear LF-only
Nonlinear LF-only

0.0034
-0.0021
-0.0022
(0.0009)
(0.0009)
(0.0009)
-0.0012
0.0005
0.0005
(0.0011)
(0.0005)
(0.0005)
0.1145
0.1169
0.0952
(0.0953)
(0.1039)
(0.1035)
-0.0087
0.0695
0.0652
(0.0521)
(0.1043)
(0.1035)
0.0070
-0.1439
(0.0427)
(0.1031)
0.4620
-0.0920
-0.0935
(0.1783)
(0.0998)
(0.0992)
0.7677
0.7990
0.7994
(0.0977)
(0.0998)
(0.1193)
0.0005
0.0003
0.0002
(0.0001)
(0.0000)
(0.0000)
-0.0001
-0.0000
-0.0000
(0.0001)
(0.0000)
(0.0000)
0.0020
0.0002
0.0002
(0.0002)
(0.0000)
(0.0000)
Test Statistic. of Lin. vs. Nonlin. Model: 0.02 (3.48)

OECD: Likelihood Ratio Test Statistic. of Lin. vs. Nonlin. Model: 2.29 (3.48)

Table 6: LF-only Results for the split sample: Parameter estimates of the LF-only PVAR-QML estimator
(based on (25) and (26)) in the nonlinear and linear (a1 = 0) variants. growth is the HF variable, gini the
LF variable and income the conditioning variable. Standard errors are given in parentheses. , and
denote significance at the 90%, 95% and 99% level. For the likelihood ratio test, the critical value at the
95% confidence level is given in brackets.

different channels and one of them alone is not sufficient in determining this effect.
It seems to be a countrys income level that can crucially influences the precise interaction of these channels, leading to the overall result that inequality affects output
growth in a more detrimental way in wealthier countries.

Conclusion

We take into account the different measurement frequencies of output growth and
the Gini coefficient by estimating a MIDAS-PVAR model on a cross-country data
set. To our knowledge, this paper is not only the first to bring the MIDAS approach
to the output growth vs. inequality literature, but also the first one to extend a
MIDAS-VAR to the panel dimension and to estimate it by PVAR-QML. Apart from

29

the different measurement frequencies our modeling approach has other advantages,
too, which may be particularly relevant for our application: The VAR structure can
contour the possible endogeneity of inequality, while the estimation of the model
in first differences with fixed effects techniques allows for the presence of countryspecific heterogeneity. The latter is known to account for a sizable part of the
variation on a cross-country basis, which other studies tend to capture with a larger
set of exogeneous regressors. In that respect, we can estimate a more parsimonious
model. Another advantage of our approach is that it can easily accommodate nonlinearity by letting the coefficient measuring how output growth depends on inequality
depend on a conditional variables, such as the income per capita level proxying for
development.
Both the Monte Carlo simulation and the empirical application underline the appropriateness of our modeling and estimation techniques. Our panel data set contains
63 countries and five quadrennial low-frequency periods, where in each of the latter output growth is observed four times and the Gini coefficient once. Our key
result is that there is a significant nonlinear effect of inequality on output growth,
with this impact being more detrimental in wealthier countries. Crucially, this result only becomes evident from the MIDAS model and not from a classical LF-only
model averaging output growth across the four-year periods. Hence, making use of
all information observed at different frequencies can give additional insights on the
output growth vs. inequality nexus, which encourage us to continue working in this
direction.

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Appendix

33

Country Code

Country

ARG
AUS
AUT
BEL
BGD
BGR
BRA
CAN
CHE
CHL
CHN
CIV
COL
CRI
DEU
DNK
DOM
ECU
EGY
ESP
FIN
FJI
FRA
GBR
GRC
HUN
IDN
IND
IRL
IRN
ISR
ITA
JOR
JPN
KOR
LKA
LUX
MEX
MRT
MUS
MWI
MYS
NDL
NOR
NPL
NZL
PAK
PAN
PER
PHL
POL
PRT
SGP
SLV
SWE
THA
TUN
TUR
TWN
URY
USA
ZAF
ZMB

Argentina
Australia
Austria
Belgium
Bangladesh
Bulgaria
Brazil
Canada
Switzerland
Chile
China
Cte dIvoire
Colombia
Costa Rica
Germany
Denmark
Dominican Republic
Ecuador
Egypt
Spain
Finland
Fiji
France
United Kingdom
Greece
Hungary
Indonesia
India
Ireland
Iran
Israel
Italy
Jordan
Japan
South Korea
Sri Lanka
Luxembourg
Mexico
Mauritania
Mauritius
Malawi
Malaysia
Netherlands
Norway
Nepal
New Zealand
Pakistan
Panama
Peru
Philippines
Poland
Portugal
Singapore
El Salvador
Sweden
Thailand
Tunisia
Turkey
Taiwan
Uruguay
United States
South Africa
Zambia

Average Gini

Average Yearly Output Growth

0.4396
0.3073
0.2726
0.2520
0.3688
0.2690
0.5111
0.2998
0.2896
0.4966
0.4431
0.4008
0.4991
0.4306
0.2726
0.2315
0.4543
0.4929
0.3493
0.3246
0.2349
0.4373
0.2826
0.3424
0.3350
0.2866
0.4902
0.4972
0.3190
0.5221
0.3414
0.3300
0.4535
0.2768
0.3166
0.4497
0.2577
0.4693
0.3874
0.1746
0.4794
0.4678
0.2561
0.2364
0.5210
0.3259
0.4096
0.5022
0.5169
0.4909
0.2887
0.3437
0.4227
0.4572
0.2335
0.5717
0.3767
0.4578
0.2900
0.4288
0.3621
0.5544
0.5456

0.0216
0.0191
0.0212
0.0180
0.0314
0.0157
0.0120
0.0142
0.0103
0.0419
0.0850
-0.048
0.0169
0.0273
0.0169
0.0155
0.0325
0.0148
0.0308
0.0225
0.0208
0.0216
0.0141
0.0202
0.0216
0.0145
0.0349
0.0428
0.0481
0.0314
0.0193
0.0118
0.0127
0.0132
0.0502
0.0397
0.0334
0.0157
0.0091
0.0365
0.0087
0.0393
0.0218
0.0211
0.0207
0.0137
0.0195
0.0353
0.0180
0.0161
0.0283
0.0203
0.0399
0.0267
0.0179
0.0419
0.0336
0.0243
0.0458
0.0212
0.0173
0.0098
-0.0016

Table 7: Descriptive statistics of our data set, years 1989-2008

34

Parameter
c1H
c1L

a0
a1
HL,2
HL,3
HL,4

cond=humancap
Nonlinear MIDAS

cond=democracy
Nonlinear MIDAS

Parameter

cond=humancap
Nonlinear MIDAS

cond=democracy
Nonlinear MIDAS

0.0010
(0.0005)
0.0005
(0.0006)
0.2749
(0.0210)
-0.0278
(0.0293)
-0.0471
(0.0514)
-3.6142
(4.2343)
-0.9824
(1.5688)
-1.3750
(1.8576)

0.0011
(0.0004)
0.0005
(0.0006)
0.2800
(0.0209)
-0.0296
(0.0522)
-0.0649
(0.0391)
-0.8808
(0.8230)
-0.4104
(0.6628)
-0.7984
(0.7719)

b1

-0.0068
(0.0706)
0.3059
(0.0672)
-0.0848
(0.0784)
-0.0361
(0.0746)
0.8020
(0.0827)
0.0010
(0.0000)
0.0013
(0.0001)

0.0070
(0.0712)
0.3017
(0.0649)
-0.0884
(0.0784)
-0.0492
(0.0789)
0.7808
(0.0778)
0.0010
(0.0000)
0.0013
(0.0001)

b2
b3
b4

HH
LL

Table 8: Other conditioning variables: Parameter estimates of the MIDAS-PVAR-QML estimator (based
on (23) and (24)) in the nonlinear and linear (a1 = 0) variants. growth is the HF variable, gini the LF
variable and, respectively, humancap or democracy is the conditioning variable. The complete sample with
N = 63 and T = 5 is used. Standard errors are given in parentheses. , and denote significance at the
90%, 95% and 99% level.

35