Income distribution and household debt: macro-economics of keeping up with the Joneses

Abstract

The purpose of this study is to examine the factors that affect household debt. The variable of interest is income inequality and its effect on household debt. The paper uses the generalized method of moments (GMM) method to estimate the relationship between household debt and income distribution. Time series data is used for the period between, 1980 -2015. The study also examines other factors that affect household debt such as lending rates, growth in income rates, unemployment rates and gross domestic product per capita rates. The theoretical framework focuses on the permanent income hypothesis and consumption smoothing which explains consumer spending throughout his lifetime and we can infer consumer borrowing from this. The main hypothesis of the study is that income distribution affects household debt to a large extent because of the effect of keeping up with the Joneses on individuals. Most of the research done in this area focuses on developed countries and not much has been done on developing countries such as Kenya. The findings in this study can be used by policy makers to better understand the impact of household debt on the economy.