THE STRENGTHS AND WEAKNESSES OF BANK OF ENGLAND’S MONETARY POLICY TAKING INEQUALITY AND CLIMATE CHANGE INTO ACCOUNT

The Strengths and Weaknesses of Bank of England’s monetary policy taking inequality and climate change into Account

While fiscal policy has gotten a lot of attention as a contributor to inequality, the impact of monetary policy has yet to be determined. Some research take opposing positions on the subject: For example, Galbraith (1998) claims that tight inflation targeting policies resulted in a series of recessions, greater unemployment rates, and hence increased inequality. According to Coibion et al., the Federal Reserve’s expansionary monetary policy (2012), boosted share prices, benefiting principally shareholders, financial market players, and traders, who are often the wealthiest households. Low-income households also invest the majority of their assets in liquid assets, which are the most vulnerable to inflationary monetary policies. The impact of monetary policy through this channel, according to Auclert (2016), is dependent on the maturity duration of assets and liabilities. Households with negative unhedged interest rate exposure, that is, households whose maturing liabilities exceed their maturing assets, benefit more from expansionary monetary policy. Expansionary monetary policies and low interest rates benefit borrowers who may be low-income households, while savers and lenders suffer (Doepke and Schneider, 2006).

As a result, monetary policy can have a mixed impact on inequality. When household income sources are taken into account, the link becomes much more convoluted. Households whose principal source of income is wages will be impacted more if policy affects wages and labor income. If monetary policy has a significant impact on asset values, high-income households with significant financial assets will be severely impacted.

Policymakers have taken note and are starting to think about how monetary policy affects inequality. This is addressed in the annual report of the Bank of International Settlements (BIS 2021), but concludes that monetary policy has had only a minor impact on inequality, and that it can do little to change the broader processes that have resulted in rising wealth and disparities in income. Andy Haldane, then a member of the Bank of England’s Financial Policy Committee, stated in a 2014 speech that while a central bank can do little to prevent income inequality, inequality does alter the policies a central bank will need to conduct to preserve price and financial stability According to Feiveson et al. (2020), Instead of employing maximum inflation targeting, central banks might use “targeted average inflation” strategies to do more (or less) to minimize income disparity. The European Central Bank has examined the effects of its policies on income distribution and quantitative easing has reduced inequality, according to the findings. (particularly regional inequality) through the employment channel (Dossche et al. 2021). When it comes to wealth, the Resolution Foundation believes that quantitative easing has been beneficial has exacerbated wealth inequality in the UK via the asset price channel (Gagnon et al. 2019). The House of Lords has asked for greater research on the subject, but believes that fiscal policy, not monetary policy, should be used to mitigate the distributional effects of quantitative easing.

Climate change is one of the most pressing economic issues, with implications for prices, aggregate demand, and the balance sheets of financial intermediaries and central banks alike. Many central bankers have blamed financial and pricing stability problems on climate change. In a crucial speech in 2015, Mark Carney, then-Governor of the Bank of England, referred to the “tragedy of the horizon,” or financial markets’ inability to effectively price climate-related concerns. Since her appointment as President of the European Central Bank (ECB), Christine Lagarde has underlined the importance of climate change to economic leaders. Isabel Schnabel (2021a), a fellow ECB Executive Board member, discussed what central banks can do to help in the global fight against climate change, while Frank Elderson (2021) focused on the effects of climate change on credit markets and supervisors of banks. Other members of the European Central Bank’s Governing Council have also weighed in on whether central banks should consider climate change and, if so, how best to include climate-related risks or mitigation measures into their policy framework. Following the ECB’s recent monetary policy strategy review, the Governing Council reaffirmed its commitment to ensuring that the Euro system fully considers the implications of climate change and carbon transition for monetary policy and central banking, in line with the EU’s climate goals and objectives.

Climate change’s potential effects on monetary policy in general, and the euro area in particular, as well as the Eurosystem’s monetary policy aims and instruments, as well as its future policy options. We shall only consider financial stability components of climate change if they have an impact on monetary policy transmission; earlier OeNB papers (e.g Climate-related financial stability risks have been addressed by Pointner and RitzbergerGrünwald (2019). We will, however, attempt to examine the scope for action that central banks could take in collaboration with other authorities who hold primary responsibility for addressing climate change and its repercussions. This is a particularly important challenge for the Eurosystem, which has a clear mandate to preserve price stability in without sacrificing this basic purpose, It is also critical to support the EU’s overall economic plan. In this regard, the European Central Bank’s Governing Council has unveiled an action plan, which includes a road map, to better incorporate climate change considerations into its policy framework (ECB, 2021)

Climate change may decrease central banks’ by lowering production and increasing savings, policymakers can create more policy space, while opposing influences such as technical advancement pushed by transition policies must be taken into consideration. Identifying temporary and structural changes in the economy is becoming increasingly difficult for monetary policymakers as uncertainty about future economic outcomes grows.

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