A Dynamic Analysis of Economic Freedom and Income Inequality in the 50 U.S. States: Empirical Evidence of a Parabolic Relationship

This paper examines the dynamic relationship between economic freedom and income inequality in the fifty U.S. states over the 1979-2004 period. Using fixed effects regression analysis, we find evidence that increases in economic freedom are associated with lower income inequality, but the dynamic relationship between the two variables depends on the initial level of economic freedom. This suggests that there may be an inverted U-shaped relationship between economic freedom and income inequality. The inflection point at which additional increases to economic freedom in a state result in less income inequality is estimated. The results are robust to various time periods and several alternative measures of income inequality.