Effect of Income Distribution on Household Savings Rate in Korea

The purpose of this paper is to study the effect of income distribution on household savings rate in Korea. Unlike previous studies that generally use a cross-country or a panel data, this paper utilizes the time series data of Korea to study the relationship. In the model, household savings rate is specified as a function of income growth rate, interest rate, stock price, housing price, and income distribution index. In addition to these conventional variables, household non-consumption expenditures is also included in the model as an independent variable. Based on the unit root tests and co-integration test results, error correction model is constructed to examine the determinants of household savings rate. Estimation result of the error correction model reveals that income growth rate, interest rate, and income distribution are significant factors that affect household savings in Korea. Empirical result shows that a rise in interest rate would increase household savings, whereas a rise in income inequality would decrease savings. Empirical results of this paper suggest that a monetary policy to normalize the interest rate and a fiscal policy to redistribute income would be effective in raising the household savings rate in Korea.