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There are solid theoretical reasons, based on concepts such as “ladder effects”, to believe that disinflationary monetary policy disproportionately burdens low-income individuals. Minority groups in the U.S. tend to have lower incomes than whites. An implication of this wage gap is that the burden of contractionary monetary policy should fall on minorities. This paper uses identified vector autoregressions (VARs), narrative evidence, and the Romer and Romer [Romer, C., & Romer, D. (1989). Does monetary policy matters? A new test in the spirit of Friedman and Schwartz. NBER Macroeconomic Annual, 4, 121–170.] approach to investigate whether this is so. The results indicate that disinflationary monetary policy increases unemployment among minorities approximately twice as much as it does among whites. The Federal Reserve (Fed) should take account of these effects when considering implementing disinflationary policy.

Most economists agree that in the short run, monetary policy can be an important source of economic fluctuations.1 As Bernanke and Gertler (1995) discuss, this belief is supported by the vector autoregression (VAR) evidence of Bernanke and Blinder (1992) and Christiano, Eichenbaum, and Evans (1996), the narrative study of Friedman and Schwartz (1963), and the evidence from disinflationary periods presented in Romer and Romer (1989). One aspect of monetary policy that warrants further study is the distributional effects of disinflationary policy. As the Economic Report of the President (Executive Office of the President, 1997, p. 53) states, these effects are not widely recognized. In theory, contractionary monetary policy should impact especially low-income individuals. Blanchard (1995) argues that an adverse aggregate demand shock such as a monetary contraction will exert “ladder effects”, harming those on lower rungs of the occupational ladder more than those on higher rungs. Blanchard and Katz (1997) further argue that unskilled workers have much larger labor supply elasticities than skilled workers. A decrease in the demand for labor due to a recession will not decrease employment among skilled workers much, but will decrease employment among unskilled workers substantially. Thus, low-skilled, low-income individuals should suffer more from disinflationary policy. It is well known that African–Americans and Hispanic–Americans tend to have lower incomes than whites (see, e.g., Bound & Freeman, 1992). The reasons for this wage gap are less clear. As Card and Lemieux (1994) discuss, it could reflect factors such as discrimination, productivity differences, or differential access to job information. The implication of the wage gap for monetary policy, however, is clear. The brunt of contractionary monetary policy should fall on blacks and other minorities earning lower wages rather than on whites. This paper examines a variety of evidence to investigate whether this is so. As discussed above, evidence that monetary policy matters comes from the identified VAR methodology of Bernanke and Blinder (1992) and Christiano et al. (1996), the narrative approach of Friedman and Schwartz (1963), and the investigation of disinflationary periods by Romer and Romer (1989). Monetary policy shocks are identified in this paper using all three approaches. The effect of disinflationary policy measured in these three ways on unemployment disaggregated by race is then examined. The results indicate that blacks and Hispanics bear a disproportionate burden from disinflationary policy. Impulse–response functions from a VAR indicate that positive innovations in the federal funds rate increase unemployment among blacks and Hispanics by 50–90% more than among whites. Examination of historical episodes of disinflationary policy shows that unemployment among minorities increases almost twice as much as among whites. Estimation using the Romer dates reveals that anti-inflationary policy shocks increase unemployment among nonwhites more than twice as much as it does among whites. Thus, the results indicate that the brunt of disinflationary policy falls on blacks and Hispanics. Section 2 presents VAR evidence relating monetary policy to unemployment. Section 3 examines disinflationary episodes to see how unemployment, by race, was affected. Section 4 employs the Romer and Romer methodology to examine this relationship. Section 5 considers the policy implications of the results reported here. Section 6 concludes.

Evidence from identified VARs (Christiano et al., 1996), narrative studies (Friedman & Schwartz, 1963), and an examination of the minutes of Federal Open Market Committee meetings to specify disinflationary periods (Romer & Romer, 1989) all indicate that monetary policy matters. One question that has not been widely investigated concerns how the burden of contractionary policy is shared in society. In theory, disinflationary policy should exert “ladder” effects, harming those on lower rungs of the occupational ladder more than those on higher rungs. It is well known that African–Americans and Hispanic–Americans tend to have lower incomes than whites. An implication of this wage gap is that the brunt of contractionary policy should fall on minorities. This paper investigates whether this is so. Evidence from VARs, narrative accounts of recent disinflations, and the Romer and Romer (1989) dates all indicate that minority groups who tend to have lower incomes pay a much greater share of the costs. Depending on the specification of monetary policy, the unemployment rate increases from 50% to over 100% more for nonwhites than for whites following contractionary policy. These results are relevant to the implementation of monetary policy. Despite the burden imposed on minorities, the central bank must follow its statutory mandate and tighten following major inflationary shocks. However, the Fed often does not face unequivocal inflation shocks, but rather some probability that inflation might increase. In these circumstances, Fed Chairman Greenspan talks of raising interest rates as insurance against inflation. The results presented here indicate that the price of this insurance is higher than can be measured by examining aggregate effects alone. Not only does contractionary monetary policy increase overall unemployment, it disproportionately burdens low-income workers who are already suffering economically. Because of this, when the risk of inflation is low, the Fed should consider foregoing inflation insurance or even stimulating the economy. While some would object that any benefits accruing to minorities would be short term, the evidence here indicates that unemployment would decline for several years. Further, if lower unemployment improves workers' job and search skills, it could permanently increase employment among low-income workers. Experience over the 1995–1999 period supports the hypothesis that the Fed, by permitting unemployment to fall, can benefit minorities and low-income workers without causing inflation.