The comparative effect of corruption and piketty’s second fundamental law of capitalism on inequality

Abstract

We aim to investigate the comparative effects of corruption and the second fundamental law of capitalism as proposed by Thomas Piketty on the level of inequality in a nation. We hypothesize that corruption, which can be viewed as an institutional distortion, has comparatively larger effects on inequality than the Second Fundamental Law. Correcting for endogeneity using an instrument variables approach, we find that corruption affects inequality in a non-linear fashion following a concave function. Utilising a varying rate of return, we also find some evidence that r-g increases inequality in the short run. This suggests pre-existing holders of capital will derive higher shares of income even in the short run. However, the effect is not as strong as that of corruption and insignificant in highly unequal countries. This suggests that, institutional factors play a more important role than the second fundamental law of capitalism in the most unequal countries. Thus, institutional reforms to curb corruption are as relevant as taxation of capital in combating inequality