I posted a question to our readers…
How should monetary policy change if reducing inequality was seen as the most important priority?
An assessment of the comments…
The real issue of monetary policy’s effect on inequality its purpose to generate a “wealth effect” which will increase spending. A few things were said about the wealth effect.
Dannyb2b: “The central bank needs to be reformed. No reforms, no solution IMO. The fed just needs to be tweaked so that it interacts with different counterparties… Buying assets through OMO’s or QE is very uneven or imbalanced because it works through increasing wealth of existing asset holders and assets are concentrated. Asset holders have a lower MPC than broader public so the effect is limited… The solution I see is to create a wealth effect that affects all people by transferring new assets (money) to all when targeting inflation or growth or whatever. Average people have a higher MPC meaning less money needs to be expanded to realize changes in gdp or inflation.”
He is explaining the problem with monetary policy creating inequality. It is true that the wealth effect has helped the economy recover through increased consumption. However, consumption by capital income is at a very level while consumption by labor is very low. So consumption by the rich, which is created by the wealth effect, is being praised as a success of monetary policy. Yet, the resultant inequality is becoming a side effect greater than the original disease. (source for increasing capital consumption)
PeakTrader responded to Dannyb2b: “Monetary policy has a powerful effect on growth. You’re ignoring the history of the Fed and confusing negative economic factors outside of the Fed’s control with monetary policy… I stated before, lower interest rates and higher asset prices induce people to spend and borrow, and reduce saving, a lower cost of capital spurs production, refinancing at lower rates increases discretionary income, lower mortgage rates makes buying a home more affordable, 401(k)s and IRAs increase in value, etc. There are massive multiplier effects throughout the economy.”
Peaktrader supports current monetary policy and praises its ability to affect growth. Yet, he seems to say that the inequality generated is beyond the Fed’s control. This thought was echoed by JazzBumpa…
JazzBumpa: “Bottom line – Monetary policy is the wrong tool to do the desired job.”
The conclusion seems to be that monetary policy can create inequality but it cannot reduce it. An interesting thought, but can we accept this conclusion? It may be that monetary policy is in a trap. As inequality grows and effective demand weakens through the MPC effect Dannyb2b mentions, monetary policy has to generate an expansion through low interest rates and QE. Moreover, the expansion must lead to inflation.
Mark Sadowski: “Inequality reached its peak in the US in the Gilded Age when there was persistent deflation, and its nadir in the 1970s when there was rapid inflation. It seems to me if you want less inequality you obviously need more expansionary monetary policy.”
Mark Sadowski makes a connection between inequality and inflation/deflation. He associates deflation with inequality. We saw this in Japan in the last 20 years. During their period of deflation, labor share fell.
Bruce Webb touches upon the connection between labor share and inflation: “Stop or at least discount labor cost as being a simple contributor to core inflation… Managers will ALWAYS see labor as a cost to be controlled and bond clippers will ALWAYS see any uptick in labor costs to put the country at risk of Weimar 2. That is the consequence of seeing labor through capitals eyes as a necessary evil… I don’t know technically how you could compute an inflation index ex labor share but conceptually it seems as simple as looking for evidence (or lack thereof) that additional wage income/labor cost was actually driving up the cost of core goods.”
The question then is… Does inequality create low inflation through a sufficiently low labor share? If yes, the higher labor share of the 1970’s supported inflation, while the current low labor share is undermining inflation. Moreover, the inflation that central bankers are hoping for will not come, as long as inequality grows upon a low labor share. So maybe it is true that a perpetually low Fed rate creates inequality, which then creates low inflation, which then anchors more inequality, until such time as more progressive policies are instituted.
More progressive taxes are one such policy. JimV and Jack mentioned higher taxes on the rich. Yet, Is that monetary policy? Does the Fed have control over tax rates? Would the Fed encourage strong progressive tax rates in the same way they encourage more fiscal stimulus? As deflation and poor labor conditions were persistent during the economic growth of the Gilded Age, eventually the concerns of the people were heard and progressive income taxes were instituted across many nations. The first income taxes fell primarily upon the rich. (source for income tax history)
Mark Sadowski also mentions that we need expansionary policy. Yet, the current expansion is primarily among the rich, not the 99.9%. Dannyb2b points out that the wealth effect concentrates wealth among the rich and “The solution I see is to create a wealth effect that affects all people”. So expansionary policy is great, but the expansion manifests as expanding inequality… not good. Thus, the original question to our readers.
So can monetary policy change to reduce inequality?
Marko cuts to the chase: “In a way , this question has no reasonable answer. It’s equivalent to asking what the Mafia or Mexican drug cartels could do to reduce drug use and crime… I don’t know the extent of the Fed’s bank supervisory powers , but I think they could make an impact with some bold actions against big finance.”
Marko is implying that the Fed exists to serve the rich, who might either have vices/addictions or social concerns. Either way, the Fed works its policies through the rich. Ultimately the rich decide what to do with the money, such as investing overseas or increasing their own capital share of national income. The rich defend themselves by saying, “a rising tide lifts all boats”. With that logic, labor is sunk. However, Janet Yellen took over the Chairwoman job by saying the Fed must serve all people. So does that mean that the Fed could take bold actions against big finance as Marko says? Have we even seen any bold actions from the Fed against big finance?
There is a bigger picture to all this given by Vernon Bush. Maybe capitalism itself creates inequality…
Vernon Bush: “All these comments presume that any solution will still unfold within a Capitalist system. I am now considering if the Capitalist system can continue to function to the betterment of society and its people in a world where there will continue to be less and less work… The bigger question is can capitalism even work in such a system? I think not as all wealth will flow to a very, very few which we see happening now and will see happening increasingly in the future. This is unstoppable in a capitalist system and tinkering with Fed rates, distribution, tax policy, etc is just that… tinkering… and not a real fix. I frankly don’t know what the real fix is but doubt it will be found in a Capitalist system.”
An alternate form of capitalism involves a high percentage of Cooperatives which distribute wealth through shared ownership of capital. Cooperatives reduce the spread between the pay of CEOs and workers. Even though cooperatives are the fastest growing form of business structures, they are unrelated to monetary policy by the Fed. So they do not answer the question posed on monetary policy and inequality.
So what is the conclusion? Is monetary policy unable to affect inequality? Does society just slide down a muddy slope into “patrimonial” capitalism, a kind of neo-feudalism? Do our rants and raves to stop this process simply echo into the yawning chasms of deep space?
Rjs offers these guiding words: “it is easier for a camel to pass through the eye of a needle than for a central banker to reduce inequality..”
We give thanks to our readers for their individual inputs…