Income inequality and social capital, are they negatively related? European cross-country analyses 2006-2012

Theoretical notions in the literature suggest the existence of a negative relationship between earnings inequality and social capital as measured by interpersonal trust. In a number of crosscountry studies this negative relationship has been confirmed. However, in later cross country-studies that control for per capita wealth and several characteristics of the population and analyse one year or shifts over longer periods find no relationship between inequality and trust. In our study we take into account that socio-cultural factors may obscure this relationship. Our main focus is on the role of a country’s welfare regime. Four regimes are distinguished: social democratic regime, conservative regime, liberal regime and transition country. We further examine the impact on interpersonal trust of per capita GDP and the societal indicators percent of residents with tertiary education, percent urbanization, government spending as a percent of GDP. We use data over four points of time from 17 European countries. Besides cross-section OLS regression models using averaged data, fixed-effects models are estimated to control for unobserved time-invariant factors. We find the hypothesised negative relationship between earnings inequality and interpersonal trust not confirmed by our data. Our findings do suggest associations between interpersonal trust and welfare regime. With regard to the welfare regime, we found in particular that a conservative regime, a liberal regime and a transition regime are all associated with a much lower level of interpersonal trust than a social democratic regime. The difference in the level of interpersonal trust from countries with a social democratic regime is largest in countries in transition and smallest in countries with a liberal regime. For the development of institutions that can raise the transition countries to higher levels of social capital and economic development, those from the social democratic welfare regime appear to offer the best perspective. The social democratic welfare regime not only pays more attention to the socially vulnerable in society by paying their benefits, but – in addition to that – by investing in strengthening their productive capabilities to improve their chances on the labour market.