Does Monetary Policy Benefit Certain Households at the Expense of Others?

The Federal Reserve is charged with maintaining maximum employment, controlling inflation, and keeping long-term interest rates reasonably low. When employment levels weaken or inflation ticks up, the bank's policymakers employ corrective measures, most commonly by adjusting interest rates and, since the Great Recession of 2007–2009, transacting in securities markets and regularly communicating the expected direction of interest rates. Are the costs and benefits of these measures distributed evenly across all households? Do some households have higher exposure to policy changes than others? These questions are taken up by Nils Gornemann, Keith Kuester, and Makoto Nakajima in their paper, "Doves for the Rich, Hawks for the Poor? Distributional Consequences of Systematic Monetary Policy." By building a model that depicts the diversity of U.S. households (referred to as household heterogeneity), they document the channels by which monetary policy affects household finances, identifying which households tend to gain and which households tend to do less well.¹

Their model demonstrates that when the central bank pursues a monetary policy, some households will fare better than others. One of the model's key features — and its distinction from models in the existing body of research — is that it accounts for household heterogeneity across many dimensions, including education level, investment holdings, professional skills, and earnings from labor (as opposed to earnings from other sources, such as financial assets).

Their model's robust portrayal of household diversity produces a detailed picture of how monetary policy can benefit certain households and harm others. 

To highlight the effects of household heterogeneity, the authors compare their model's output to the output from two other versions of their model, each of which accounts for households in a less diverse way. One of these versions invokes a generic representative household, while the other uses a two-agent arrangement in which households are labeled as either savers or spenders. By comparing their principal model to the two versions that use simplified proxies for households, they are able to pursue a major goal of their research: to account for differences in households.

In order to analyze a long sequence of systematic monetary policy actions, their model uses a data sample that runs from early 1984 to the fall of 2008, allowing the authors to study both an extended period of economic stability and the economic turbulence of the Great Recession. The authors parameterized the model to mirror real-world variations in household financial conditions as well as differences in their life stages (retired versus working-age, for instance). All along, the assumptions underpinning the model are based on official data, in line with broadly accepted methods employed in previously published research.²

So, which monetary policies generally benefit (or harm) different households, and what factors influence these results? Outcomes are influenced, the model shows, largely by the relative strength of each household's financial standing. Wealthier households generally experience economic benefits when monetary policy focuses on inflation rather than unemployment. Less-wealthy households, meanwhile, tend to benefit more when policy focuses on unemployment rather than inflation. Notably, retirees and wealthier households are affected in a similar way. They both tend to hold more wealth, though retirees are no longer affected by labor market conditions.

To illustrate the mechanisms at work, the authors look at episodes during which the central bank focuses on stabilizing inflation. Their analysis reveals that the bank's actions are associated with benefits for higher-wealth families, beginning with an increase in the value of their financial holdings. Moreover, at the same time that economic gains are experienced by wealthier households (including retirees, who are shown to be among the strongest beneficiaries of inflation-centered policy), a policy of inflation stabilization translates to economic losses for less-wealthy households. As the authors explain in their paper, when the central bank seeks to stabilize inflation, its actions lead to slower economic activity overall, and wages then decline, which ultimately reduces income for rank-and-file staff.

The authors stress that the outcomes they report are evident specifically within the model that treats households as very diverse agents, whereas the results are more muted in the models that depict households in a less-diverse way (for example, by categorizing them more broadly, as mentioned above).

The experiments discussed in "Doves for the Rich, Hawks for the Poor? Distributional Consequences of Systematic Monetary Policy" demonstrate how wealth inequalities can determine which households reap economic gains from monetary policy actions and which households suffer economic losses. The research suggests that such diverse consequences are difficult to avoid. After all, households differ across many dimensions, and the paper — unlike previous studies in this area — carefully takes this diversity into account. In doing so, it reveals a fundamental tradeoff that underlies the relationship between policy actions and household finances: The more the central bank responds to unemployment, the less volatile unemployment becomes and the more volatile inflation becomes (eventually resulting in overall gains for the less wealthy, who rely on income from work, and losses for the wealthy); and when policy focuses on stabilizing inflation, lower employment and lower wages tend to result (eventually producing overall gains for the wealthy, who rely on financial income, and losses for the less wealthy).

As the authors note, the unequal consequences of monetary policy are not intentional, and the paper's findings should not be construed as an indictment of stabilization measures. "Rather," they write, "we hope to highlight that the choice of systematic monetary stabilization policy may not be entirely innocuous, be it for aggregate [economic] activity or [for] households."