‘Woke’ on Inequality

Should central banks do something about inequality and, if so, what? This has become a hot topic, so much so that the Bank for International Settlements (BIS) decided to focus on it in a recent annual report. Its conclusions are what one would expect: monetary policy is neither the main cause of inequality nor a cure for it. 

A striking fact noted by the BIS is that, since what it calls the “Great Financial Crisis”, the proportion of speeches by central bankers mentioning inequality has soared. This partly reflects rising political concern about inequality. But it also reflects a specific critique. 

In 2009, less than 0.5% of all central bankers’ speeches recorded on the Bank for International Settlements (BIS) database mentioned inequality, or the distributional consequences of their policies. In 2021, the figure is 9%, almost 20 times as many.

One might find this odd, when according to a Forbes list of the World’s Most Powerful People some years back, Ben Bernanke, then chairman of the US Federal Reserve, held the sixth position, while Mario Draghi, the then president of the European Central Bank, came in at number eight. They were both ranked above the Chinese president, Xi Jinping.

In the aftermath of the global financial crisis that began in 2008, and its European cousin, the eurozone crisis, central banks were in the driving seat, easing quantitatively like there was no tomorrow. They were, it was often said, “the only game in town”. One could say that there was even an element of folie de grandeur in their elevation.

Since then, central banks have deployed policies featuring exceptionally low interest rates and extensive use of balance sheets to support economic activity and lower unemployment. Such measures fuelled concerns that central banks’ actions, by boosting asset prices, have benefited mostly the rich. That critique is popular among conservatives who detest activist central banks.

The response to the COVID crisis, however, has been different from the one to the financial crisis. Although central banks have continued to buy bonds incontinently, fiscal policy has been the key response to the pandemic. In the US, President Joe Biden and Congress have led the charge. In the EU, the European Commission’s recovery and resilience facility is at the heart of the €750bn (£650bn) next generation EU plan, while in Malta, the Minister of Finance has been signing the cheques.

But the BIS has warned central banks against thinking they could now right the notional wrong of income inequalities and skewed wealth distribution. In fact, its chief Agustín Carstens has insisted the direct impact of central bank policy on inequality gauges was fleeting and shouldn’t distract from the overwhelming priority of macro stabilisation – preventing booms and busts far more damaging to job prospects and incomes for poorer households over time.

“Over the long run, inequality is not a monetary phenomenon,” he told an online Princeton University event. Broadly speaking, this is correct. But in a world in which central bankers have become such aggressive actors, it may not be enough.

Indeed, you will hear the opposite case from Raphael Bostic, president of the Federal Reserve Bank of Atlanta. In a recent interview, Bostic put a high priority on lessening inequality and promoting inclusion. He says his own experience has attuned him to discrimination and exclusion. In a speech in May to the Consumer Financial Protection Bureau, he said, “Economic inclusion, I firmly believe, is among the defining economic issues of our time.”

Asked about central banks keeping interest rates extra-low, Bostic explained that the first order goal in the response to the COVID pandemic was to make sure the economy would not collapse so that there would be jobs. If people don’t have a job then they have no hope of building wealth, so that’s the first thing policy-makers had to focus on.

The second order goal was to pay more attention to the notion of economic mobility and resilience as something that plays an important role in economic development. The effects of the pandemic highlighted the need for a broader focus on issues of inequity as a structural barrier that prevents people from fully participating.

A big challenge in the post-COVID world is how to build a work force that is relevant for the economy of today and the economy of tomorrow.  Governments have to engage with employers, and then they need to make sure education is available so that people can get the necessary skills. 

Another challenge is that many countries are finding that they have a significant population that is on assistance and is not seemingly able to get off it. In some instances, it is the way the support programmes are structured and designed, and the incentives that are embedded in them. 

Central banks are definitely trying to move into social engineering, in part as a defensive move on a hot-button topic. Central banks’ new-found zest for tackling inequality suggests that they were at least partly responsible for it in the first place. That’s largely because the U.S. Federal Reserve’s strategic review last year committed it to “inclusive” full employment, citing the drag on economic potential from marginalised groups and income inequality.

As a result, it is now widely assumed the Fed will keep policy loose until as many disadvantaged income, ethnic and age groups as possible get back into work – even if aggregate jobless rates appear at ‘full employment’. Additionally, its more flexible averaging of its inflation target over time allows it run the economy “hot” for longer to facilitate that.

Fed chairman Jerome Powell insists inequality merely “augments” thinking and has its limits. He was partly responding to the charge that Fed tightening came too soon in prior recoveries to ensure all households were able to fully take part.

During the last 18 months there has been a remarkable expansion of the central banks’ fields of activity. The European Central Bank itself has moved into the climate change arena, arguing that financial stability may be put at risk by rising temperatures, and that it can and should be proactive in raising the cost of credit for corporations without a credible transition plan.

As far as governments are concerned, they should offset the impact of loose monetary policy on income and wealth inequality by the use of fiscal policy to ensure that post-tax inequality is moderated.

They should also work on labour-market regulation to rebalance bargaining power in favour of employees. And they should invest more in education.

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