Actually, the Fed Can Do Something (Lots, Even) About Inequality

At today’s confirmation hearing for prospective Federal Reserve Chair Janet Yellen, Senator Heidi Heitkamp (D-N.D.) asked Yellen about how Fed policy contributes to inequality, and specifically worried that recent Fed policies (ie, quantitative easing) have helped asset owners without doing much to help low- and moderate-income Americans.

There are a couple of things to note about this. For one, Yellen’s answer that faster growth and a better job-market recovery would do a lot to ease inequality was spot-on. The short version is that the Fed can do the most to address inequality by quickly getting unemployment down to very low levels. She specifically noted the episode of the late 1990s when very tight labor markets led to across-the-board wage growth. This is exactly right, and too often under-appreciated.

We noted in The State of Working America, 12th Edition that even relatively rosy estimates of unemployment reductions imply that the Great Recession and the weak recovery that preceded it could well lead to typical Americans seeing essentially no wage and income growth for two full decades before all is said and done. This is an underappreciated policy catastrophe.

Given the central importance of low unemployment for braking inequality and fostering broad-based growth, and given that the current Fed policy is clearly aiming to lower unemployment, I’m pretty sure the net effect of this policy is beneficial for those worried about low- and moderate-income Americans.

I do, however, think there was an unexplored angle: the role that excessive growth in the financial sector has played in recent decades in driving inequality. As we’ve noted here, finance salaries are disproportionately represented in the top 1 percent, and the growing share of total income claimed by this sector is awfully hard to justify with evidence that it’s been accompanied by better outcomes for overall growth. Instead, the era of deregulation has seen finance claim lots of income without generating corresponding economic value. Whether or not this era of deregulation has truly ended or not will rest largely on what new Fed Chair Janet Yellen does. While her number one target will understandably be regulatory oversight to safeguard overall macroeconomic stability, it seems a given that not allowing financial institutions to take on and hide enormous amounts of leverage should also reduce the growing share of income claimed by finance. Or so we can at least hope.

Full employment plus shrinking finance to its genuinely efficient size are pretty key progressive targets for lots of reasons, and reducing the growth of inequality is one of them.


  • http://wealthofnotions.blogspot.com/ Adam_Smith

    That the Fed is trying to raise employment levels is not the same as succeeding. So far, monetary policy has been far more effective at pumping up the financial sector than the real economy. It is possible that current monetary policy is actually a net negative for employment as it promotes speculation in financial instruments over real investment. We need less monetary stimulus and more fiscal stimulus. The main problem with fiscal stimulus is that it ordinarily is financed by debt and we already have too much of that. I suggest financing fiscal stimulus, especially by way of infrastructure spending, with a broad but light financial transactions tax.