The Spillover Effects of Top Income Inequality

Top income inequality in the United States has increased considerably within many occupations. This phenomenon has led to a search for a common explanation. We instead develop a theory where  increases in income inequality originating within a few occupations can “spill over” through consumption into others. We show theoretically that such spillovers occur when an occupation provides non-divisible services of heterogeneous quality to consumers. Examining local income inequality across U.S. regions, we find evidence that such spillovers exist for physicians, dentists, other medical occupations, and real estate agents. Estimated spillovers for other occupations are consistent with the predictions of our theory. Calibrating our model, we show that spillovers amplify a given shock to top income inequality by at least 16%. Spillovers dampen the increase in consumers’ welfare inequality compared with the change in income inequality.

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