Wealth Inequality, Asset Price Bubbles and Financial Crises

This paper examines the role of wealth inequality as a predictor of financial crises, analyzing data from 18 countries between 1870 and 2020. Unlike previous research focused on the effects of financial crises on inequality, we explore whether increases in wealth concentration-specifically in the top 1%-elevate crisis risk. Our findings indicate that, even after accounting for key crisis predictors, a one standard deviation rise in the growth of the top 1% wealth share is associated with a 3 to 8 percentage points increase in crisis probability, with results robust across various crisis lists and empirical approaches. Temporal dynamics reveal that while a credit boom can jeopardize the financial system as early as the following year, it takes several years for an increase in private wealth accumulation and wealth concentration at the top to significantly heighten the risk of a systemic bank run, serving as early signals of potential instability. Furthermore, we find evidence that asset price bubbles can serve as transmission channels, although these relationships vary by asset class and "bubble" definition. Our findings suggest that addressing wealth concentration could reduce inequality while acting as a stabilizing force for financial systems, highlighting the importance of incorporating broader inequality metrics in crisis prediction models and exploring policy mechanisms to mitigate systemic risks.