The Financial Crisis and Income Distribution in Korea : The Role of Income Tax Policy

Abstract

We empirically examine the impact of the financial crisis at the end of 1997 on income inequality in Korea. We also find the role of income tax policy on reducing the level of income inequality. The income inequality became serious after the financial crisis, with the Gini coefficient of 0.3368 in 1996 and 0.4008 in 2000. Especially, poor group was increased from 4.7% in 1996 to 6.6% in 2000. The redistributive effect of income tax was relatively low, as it has too low average tax rate, irrespective of high progressivity. The most serious problem was too high level of horizontal inequity with unequal tax treatment of equal income groups. Horizontal inequity with classical notion was the most serious in 1996, as it allowed too much deductions and exemptions at that time. The degree of income inequality was much worse in 2000, but the horizontal equity was improved. Our policy suggestion is that Korea’s income tax system can have a greater redistributive effect while increasing the level of horizontal equity, which leads to the equal tax treatment of an equal income group. It implies that various kinds of tax incentives including allowance, deduction, and exemption should be abolished. Horizontal equity with classical notion can be actively used as one tool to enhance the redistributive effect of Korea’s income tax system.