Discontinuity and Unfairness in the Effects of Central Bank Actions

There are groups of people that, through no fault of their own, are less productive. Maybe they are young and inexperienced just out of school, maybe they are older and have lower stamina, maybe they are rooted in a region where it is costlier and more difficult for businesses to operate, maybe they are a visible minority and are made less efficient by other people’s discriminatory treatment, maybe they have a difficult family situation affecting them at work, maybe they only have experience in industries where margins are thin because of foreign competition or maybe they are innately just not good at the type of activities that are profitable in today’s world.

Central banks influence job creating investment spending through interest rates. It may seem like small interest rate change wouldn’t make a big difference for anyone once the effect propagates and is diluted across the whole economy. However, looking at it through the lens of cost of capital or hurdle rate, where businesses decide which projects to fund based on the expected profitability relative to borrowing costs, or relative to holding government paper, it is easy to see that the effect is highly unequal. This type of calculation implies a threshold, a cutoff where activities under a certain level of profitability are completely stopped. The fact that interest rates act as a threshold with regards to investment entails shutting down all lower margin activities, those that tend to be manned by people who are naturally disadvantaged.

This means that when central banks tighten too much, some workers may be afflicted moderately by a more difficult labor market but also whole segments of the less productive and more vulnerable may be completely cutoff from having a job.

The investment spending in equipment and buildings necessary to perform their work disappears. Major projects get cancelled in disadvantaged areas. Entry level positions that would be manned by the less experienced disappear. Jobs that require less education and less skills go away.

People who, in good times are already paid less and have little capacity to bear a fall in revenue, don’t just bear a proportionate drop but a complete fall to zero often with only meager government welfare to fall back on. On top of the hit to dignity, it atrophies their skills and makes them further disadvantaged and vulnerable. In the next cycle, they’re likely to again be the first to be cutoff.

It’s difficult to overstate the utter cruelty of monetary mismanagement.