The Poor and the Rich: Preferences over Inflation and Unemployment

Our paper “The Poor and the Rich: Preferences over Inflation and Unemployment”, written jointly with Marc Hofstetter, has now been published in the Journal of Money, Credit and Banking (JMCB). Here is a summary of our work:

Strong Central Bank’s anti-inflationary postures are often viewed as a way to implement policies consistent with the preferences of the poor. Five examples:

1. Mankiw (2006): inflation “is not a tax on all assets but only on non-interest-bearing assets, such as cash. The rich are able to keep most of their wealth in forms that can avoid the inflation tax”.
2. FED Kansas City President, George (2017): “not as enthusiastic or encouraged as some when I see inflation moving higher,” because “inflation is a tax and those least able to afford it generally suffer the most.”
3. Cœuré, ECB (2012): “inflation is also particularly harmful to the poorest parts of the population”; “poorer households tend to hold a larger fraction of their financial wealth in cash, implying that both expected and unexpected increases in inflation make them even poorer.”
4. Central Bank of Colombia: low & stable inflation is important because “increasing inflation means a redistribution of income against the poor.” 
5. Central Bank of Chile: inflation tends to hurt those who have a greater proportion of their wealth in money, that is, the poorest.

But do the poor prefer stronger anti-inflationary policies than the rich? 

This is not obvious: anti-inflationary policies often come at the cost of less economic activity and higher unemployment rates, and these side effects of contractionary monetary policies are not necessarily evenly spread across the income distribution. 

Accordingly, preferences vis-à-vis inflation versus unemployment might also not be evenly distributed across income groups. We study these relative preferences across the income distribution.

We find that:

1. Both the poor and the rich dislike inflation and unemployment and they both dislike extra points of unemployment more than extra points of inflation. 
2. The aversion to unemployment relative to inflation is higher in Latin America than in Europe.
3. Our main point: the poor have a higher aversion to unemployment relative to inflation than the rich. This finding is at odds with the commonly held view by Central Banks that hawkish monetary policies line up with the poor’s preferences.

The idea that a compassionate Central Bank should fight inflation strongly notwithstanding the consequences on unemployment is at odds with the preferences along the income distribution estimated in our paper.

References

• Banco Central de Chile. ¿Por qué la meta de inflación es importante? Retrieved April 28, 2021, from https://www.bcentral.cl/web/banco-central/areas/politica-monetaria 
• Banco de la República de Colombia. ¿Por qué es importante tener una inflación baja y estable? Retrieved April 28, 2021, from https://www.banrep.gov.co/es/contenidos/page/qu-importante-tener-una-inflaci-n-baja-y-estable 
• Cœuré, B. (2012, October 17). What Can Monetary Policy Do About Inequality? Speech presented at the International Day for the Eradication of Poverty, European Parliament, Brussels, Belgium. https://www.ecb.europa.eu/press/key/date/2012/html/sp121017.en.html 
• George, E. (2017, April 18). On the Path of Monetary Policy Normalization. Speech presented at the 26th Annual Hyman P. Minsky Conference, Levy Economics Institute of Bard College, Annandale-on-Hudson, NY. https://www.kansascityfed.org/documents/1884/2017-2017-George-NY-4-18.pdf 
• Mankiw, G. (2006, May 23). The Inflation Tax [Blog post]. Retrieved from http://gregmankiw.blogspot.com/2006/05/inflation-tax.html