Thomas Hogan’s piece today for Capital Matters is about how the Fed contributed to the higher inflation we are currently experiencing by playing with DEI in monetary policy. He writes:
Under pressure to implement diversity, equity, and inclusion (DEI) initiatives, however, the Fed revised its monetary-policy objectives to make its employment target more “inclusive.” Pursuit of this goal was one reason that the Fed maintained an overly expansionary policy, with consequences of which we have only just been reminded.
There’s one really key point that Hogan makes later on. He writes that nearly all economists agree, regardless of ideology, that monetary policy is not a great way to pursue any kind of DEI goal (emphasis added):
Monetary policy is a blunt tool that affects the entire economy. It cannot focus on specific subsets of the labor force. Fed chairman Jerome Powell and his predecessors Janet Yellen and Ben Bernanke have all said that monetary policy is not capable of resolving disparate labor-market outcomes. The best it can do is promote economic growth that will benefit all workers and consumers.
Despite widespread agreement that monetary policy cannot fix inequality, Fed officials decided to try it anyway.
Macroeconomists are often depicted as being constantly at odds with one another. There’s some truth to that, and many key questions about business cycles lack agreed-upon answers. But there are many cases where macroeconomists do actually agree on a position that’s based on evidence and research. Monetary policy’s not being a good tool to fix inequality is one such case.
Fed officials’ deciding to try it anyway was more a reflection of political factors than economic ones. It’s not as though there was a big debate among Fed economists, with some saying that monetary policy is good at fighting inequality and others saying it’s not, and the DEI proponents won the argument. No such argument happened. They pretty much all agree that monetary policy is no good at addressing inequality.
Instead, the internal debate probably went something along the lines of: What do we have to do to stay in the good graces of Congress and adjust to the political reality of our time? Fed officials probably looked around at the banks they regulate and the financial press and saw DEI just about everywhere. They heard comments from Democrats in Congress about it, who explicitly tied concerns about diversity to their thinking on Fed-nominee confirmations. And they reasoned that they’d need to include some DEI to retain political credibility.
It’s likely that a similar thought process goes into discussions of climate risk in central banking. They know, from an economic point of view, that climate change poses a relatively small risk to the financial system. The argument isn’t primarily over economics. It’s over political considerations.
Right now, for example, just about every economist from anywhere on the political spectrum would tell you that it’s not good for fiscal policy to work against monetary policy. Yet even after the Fed began its rate increases, Democrats have continued to add hundreds of billions of dollars in spending, whether through the so-called Inflation Reduction Act or the illegal student-loan handouts.
The Fed knows that isn’t helping. But it isn’t saying anything about the consequences of fiscal policy in any of its official statements, even though that’s one of the major sources of inflationary pressure right now. That’s probably because it doesn’t want to pick a fight with Democrats, some of whom already have announced their hostility to Fed chairman Jerome Powell.
There’s political sense in avoiding these kinds of confrontations and keeping up with trends on issues such as DEI. The Fed has a very difficult game to play as an unelected yet extremely powerful institution in a democracy. But like any bureaucratic organization, it is susceptible to groupthink, and in financial circles for the past few years, DEI has been all the rage. That groupthink can have consequences, and as Hogan argues today, it probably contributed to the decision to delay monetary tightening longer than was prudent, which has contributed to inflation.