Drivers of Cross-Country GDP Inequality in Europe: A Two-Stage Factor Decomposition, 1990–2024

Between-country GDP inequality in Europe declined markedly from the early 1990s to the eve of the global financial crisis, but this convergence has since stalled and partly reversed, pointing to a structural change in the macroeconomic forces shaping cross-country disparities. This paper investigates the contribution of macroeconomic factors to that evolution by decomposing between-country GDP inequality into expenditure-side components, income-side components, and demographic and productivity-related channels. Using annual OECD National Accounts data for 17 European countries over 1990–2024, we implement a non-parametric two-stage decomposition strategy that combines a counterfactual Shapley procedure with a Shorrocks factor decomposition. The estimation strategy we propose provides an exact accounting of inequality in terms of interpretable factor contributions, separates demographic effects from per-capita GDP dynamics, and is well suited to settings in which macro aggregates are jointly determined. Our findings show that the decline in inequality up to the late 2000s was largely driven by wage- and consumption-led convergence, underpinned by narrowing productivity gaps. Since the 2000s, however, growing dispersion in exports has increasingly acted as the main source of divergence, while profits have progressively replaced wages as the main income-side channel through which productivity differences translate into inequality. These results suggest that, in a changed macroeconomic environment, reducing between-country inequality requires not only policies that reconnect wage growth to productivity and sustain domestic demand, but also interventions on the profit side and greater coordination of external balances.