Are Central Banks to Blame for Rising Inequality?

The view that central-bank interest-rate policy can and should be the main driving force behind greater income equality is stupefyingly naive, no matter how often it is stated. Central banks can do more to address the inequality problem, but they cannot do everything.

CAMBRIDGE – Judging by the number of times phrases such as “equitable growth” and “the distributional footprint of monetary policy” appear in central bankers’ speeches nowadays, it is clear that monetary policymakers are feeling the heat as concerns about the rise of inequality continue to grow. But is monetary policy to blame for this problem, and is it really the right tool for redistributing income?

Recently, a steady stream of commentaries has pointed to central-bank policy as a major driver of inequality. The logic, simply put, is that hyper-low interest rates have been relentlessly pushing up the prices of stocks, houses, fine art, yachts, and just about everything else. The well-off, and especially the ultra-rich, thus benefit disproportionately.

This argument may seem compelling at first glance. But on deeper reflection, it does not hold up.

Inflation in advanced economies has been extremely low over the past decade (although it accelerated to 5.4% in the United States in June). When monetary policy is the main force pushing down interest rates, inflation will eventually rise. But, in recent times, the main factors causing interest rates to trend downward include aging populations, low productivity growth, rising inequality, and a lingering fear that we live in an era where crises are more frequent. The latter, in particular, puts a premium on “safe debt” that will pay even in a global recession.

True, the US Federal Reserve (or any central bank) could impulsively start increasing policy rates. This would “help” address wealth inequality by wreaking havoc on the stock market. If the Fed persisted with this approach, however, there would almost certainly be a huge recession, causing high unemployment among low-income workers. And the middle class could see the value of their homes or pension funds fall sharply.

Furthermore, the dollar’s global dominance makes emerging markets and developing countries extremely vulnerable to rising dollar interest rates, especially with the COVID-19 pandemic still raging. While the top 1% in advanced economies would lose money as one country after another was pushed to the brink of default, hundreds of millions of people in poor and lower-middle-income economies would suffer much more.