The Origins of Monetary Policy and Income Distribution in Post-Keynesian Thought
Guillermo Matamoros Romero
PhD candidate in economics, University of Ottawa
“Nevertheless, despite the now abundant evidence that interest rate changes have multiple and lasting effects on income distribution, mainstream models fall short and are not consistent with long-term impacts on distribution.”
Interest rates are going up almost everywhere. As a result, the potential consequences of raising interest rates, such as their impact on income distribution, are at the heart of monetary policy debates, even among mainstream economists, which is unlike the 1980s where only post-Keynesian economists were discussing this issue. At that time, post-Keynesians were debating the disastrous Monetarist experiments of the 1970s and the Volcker shocks in the early 1980s (Seccareccia, 1988). Indeed, there is a long tradition within post-Keynesian economics linking monetary policy and income distribution going back to Keynes’s writings in the interwar years.
Antecedents: Keynes and Joan Robinson
In the first chapter of his book, A Tract on Monetary Reform (1923), Keynes analyzed how changes in the inflation-discounted rate of interest — the real rate of interest — affect income distribution between rentiers, those who make a living out of interest-bearing assets, and non-rentier groups, in a world dominated by fixed interest rate contracts. The chapter showed Keynes preoccupation with the consequences of rising social discontent to the stability of Western Europe during the agitated interwar period.
However, Keynes did not identify workers as the primary threat to peace. Rather, he was concerned with the dangers posed by a monetary policy put in place to favor the rentier class, thereby magnifying income inequalities. A “rentier first” monetary policy would provide no incentive whatsoever to invest, and social life could be ultimately transformed into a casino. This idea of the perverse effects of a rentier-first policy would be carried forward to the General Theory (1936), to the point that he advocated for the “euthanasia” of the rentier by keeping a low rate of interest that minimizes hoarding activities and promotes full employment.
In the postwar period, Joan Robinson, as the natural heir of Keynes’s ideas, tackled the issue of the rate of interest as a distributional variable. In chapters 24 and 25 of The Accumulation of Capital (1956), she did not hesitate to reveal the intrinsic conflict between entrepreneurs and rentiers over the distribution of profits, where the variable in dispute is the rate of interest. She noted as well that the impact of changes in the rate of interest on investment would depend on income distribution, in this case distribution within the entrepreneur class through what she called “borrowing power” — the entrepreneur’s capacity to acquire a loan — in an endogenous money framework.
The Mavericks: Post-Keynesians in the 1980s
Although the subject of monetary policy and income distribution can be found in Keynes and Robinson, it was never placed at the center-stage in their writings. However, partly because of the influence of these two towering figures in post-Keynesian economics, the topic was caught up by a handful of post-Keynesians in the late-1980s.
At a Toronto conference in 1986 at York University in honor of Keynes, Marc Lavoie and Mario Seccareccia (1988) exposed the paramount increase in the concentration of income since the late-1970s as a consequence of a rentier first monetary policy, based on the ideas of Keynes of course, but also on those of Joan Robinson and the groundbreaking work of Luigi Pasinetti (1981). In it, Pasinetti argued that from a monetary policy perspective, the rate of interest that preserves income distribution must be set at the level of the rate of inflation plus the rate of productivity growth, assuming a pure labor economy i.e., an economy where all income is wages. As a side note, Pasinetti visited Ottawa as a visiting professor the same year of the publication of his 1981 book. Both the book and Pasinetti’s visit — and the discussion that ensued — would inspire the work of Lavoie and Seccareccia in subsequent years.
In any case, Lavoie and Seccareccia (1988, p. 151) claimed that “changes in the rate of interest have both a direct and indirect impact on the distribution of income between rentiers and the ‘active earning class’ of workers and entrepreneurs.” Moreover, the two economists also developed what would later be known as the Pasinetti index (PI), a measure of income redistribution trends between the rentier and non-rentier groups. The PI is the difference between the real interest rate (r) and the rate of growth in labor productivity (z), whereby there is income redistribution towards the rentier class so long as r > z, and vice versa (see also Seccareccia, 1988).
Around the same time, Alfred Eichner (1987) did not vacillate to define the rate of interest as a distributional variable, along with the wage rate and the markup. Within his demand-led endogenous money framework, the short-term interest rate is exogenously fixed by the central bank and interest rate policy determines the income of the rentiers.
Similarly, Basil Moore (1989) wrote an article where he called the “functional redistribution effect” to the impact of changes in interest rates on the markup over unit costs and on the wage share. He argued that if firms can pass on increases in interest rates on prices, the wage share would decrease so long as prices would gradually rise, and the money wage would likely fail to catch up.
Finally, Chris Niggle (1989) explained the many income distribution impacts of monetary policy, underscoring that several factors can play a role other than the fact that the rate of interest is a cost-income distribution variable. He argued that the overall effect on distribution is hard to measure, considering the other impacts of changes in interest rates on the economy, for instance on capital gains, the debt-to-income ratio, and so on.
All the above early contributions marked the beginning of a fruitful tradition in post-Keynesian economics that would inevitably link monetary policy with income distribution; debating the distribution and growth consequences of interest rates rules; and ultimately placing interest rate policy within the broader issue of the political economy of distribution and growth (see, for instance, Rochon and Setterfield, 2007, 2008).
Conclusion: The Power of Post-Keynesian Economics
It is not accidental that a group of post-Keynesians — associated mostly with the horizontalist approach — tackled the issue of monetary policy and distribution all in the second half of the 1980s. Those were hard times for the working class due to the 1980s crisis and the dismantling of the welfare state, and for post-Keynesian economics as well because of the complete ostracism of any macro-approach that did not align with mainstream macroeconomics. But precisely because they were not stuck in a mainstream straitjacket, post-Keynesians came up with a different understanding of the causes and consequences of the 1980s crisis.
To start with, post-Keynesians argued that the inflationary surge in the 1970s and early 1980s was supply-side determined, having to do with the oil shocks and specific bottlenecks. Also, the 1980s crisis was induced by a policy response to supposedly fight inflation but did not tackle any of the inflation pressures. Instead, macroeconomic policies were oriented towards the redistribution of income away from workers. On the one hand, fiscal policy contracted significantly, with particular focus on massive cuts in social spending and tax-incentives for the rich. On the other, monetary policy switched blatantly to a rentier-first strategy of huge hikes in interest rates.
For post-Keynesians, who always rejected any notion of money neutrality and the existence of a unique “neutral” rate of interest, it was obvious that such monetary austerity would have tremendous consequences on income distribution and ultimately on economic growth. For the mainstream, however, monetary policy could not have any impact on income distribution in the long-run and so if policy had something to do with the 1980s crisis, it was a painful but necessary action to stabilize inflation.
In any case, it was not until the subject of income distribution became attractive after the Global Financial Crisis of 2008, that the mainstream switched its attention towards the effects of monetary policy on personal income distribution — unlike functional distribution, which has been the primary focus of post-Keynesians. Nevertheless, despite the now abundant evidence that interest rate changes have multiple and lasting effects on income distribution, mainstream models fall short and are not consistent with long-term impacts on distribution (see Kappes, 2023, for a recent review). In contrast, post-Keynesian economics has been developing fully coherent explanations of the rise in income inequality in industrialized countries, going back to at least the 1980s, where monetary policy has played a critical role.
To be fair, there is much more to say on this topic, for instance, with respect to the Sraffian tradition. However, this and other relevant issues are currently being explored in a forthcoming paper with Antonino Lofaro and Louis-Philippe Rochon.
Non-hyperlinked references
Lavoie, Marc, and Mario Seccareccia (1988). “Money, Interest and Rentiers: The Twilight of Rentier Capitalism in Keynes’s General Theory”, in Keynes and Public Policy After Fifty Years, vol. 2, ed. by O. Hamouda and J.N. Smithin, Aldershot: Edward Elgar, pp. 145–58.
Moore, Basil J. (1989). “The Effects of Monetary Policy on Income Distribution”. In Paul Davidson and Jan Kregel (eds.), Macroeconomic Problems and Policies of Income Distribution. Aldershot, UK: Edward Elgar, pp. 18–41.
