Abstract: Labor income share and income inequality may have interactive effects, which has been rarely studied yet. This paper employs a two-equation vector autoregressive model and makes use of the provincial panel data in China from 1998 to 2016 to investigate the interaction between the two. The results show that although the increase in labor income share will increase inequality in the same year, the direction of the influence in the following year will reverse greatly, and the overall effect of reducing inequality can be seen; while the impact of income inequality on labor income share is not significant. The result of Granger test shows that labor income share is the Granger cause for income inequality; however, the income inequality is not the Granger cause for labor income share. This means that changes in income inequality over the past two decades have had no significant impact on changes in the share of labor income, however, increasing the share of labor income can help to lessen income inequality.

Key words: labor income share; income inequality; functional income distribution; size income