Monetary Policy and the Wealth Distribution

Figure 1: Change in wealth shares after an interest rate shock 

Non-Technical Summary

We study the effects of monetary policy on the distribution of household wealth in the United States, distinguishing between interest rate and asset purchase shocks, using both the Distributional Financial Accounts (DFA) of the United States and the Panel Study of Income Dynamics (PSID). Our first contribution is to demonstrate that the impact of monetary policy on wealth levels depends largely on the type of policy instrument. A decrease in interest rate shock initially increases net wealth across the distribution, with the bottom 50% experiencing the largest percentage gain. Over time, however, the effect remains positive only for the top 10%, while it turns significantly negative for the bottom 50%. The analysis of unconventional monetary policy presents a different picture. An asset purchase shock initially raises net wealth for all groups, with the bottom 50% experiencing the largest percentage increase, followed by the top 0.1%. However, this increase in net wealth is short-lived, as the effects of monetary policy fade away.

We show that the effect of monetary policy on net wealth for the bottom 50% of the distribution is entirely driven by the response of housing net wealth, especially following an interest rate shock. This is consistent with the fact that the bottom 50% is highly exposed to housing, with real estate assets accounting for more than half of total assets between 1989 and 2019. Consequently, as we move toward the top of the wealth distribution, the importance of housing wealth diminishes. Instead, the response of corporate equities and mutual funds becomes the main factor driving changes in net wealth after a monetary policy shock, particularly in the short run. Using data on aggregate revaluations, we also find that monetary policy shocks have heterogeneous effects on capital gains across the wealth distribution, especially in the short run. This is consistent with evidence suggesting that asset price revaluations contribute to unequal wealth growth following monetary policy shocks, beyond channels tied to income, inflation, and mortgage payments.

To understand why net housing wealth at the bottom rises and then falls after a decrease in interest rate shock, we decompose the response into real estate and mortgage debt. Real estate values rise on impact, reflecting new home purchases as well as rising house prices, while mortgage balances respond more sluggishly but keep rising for longer, eventually outpacing the increase in real estate holdings. We confirm this mechanism using household-level panel data from the Panel Study of Income Dynamics: previously constrained renters become homeowners following an interest rate cut, and existing homeowners increasingly borrow against their home equity. This shows that the wealth reversal reflects genuine dynamics within the same households over time, rather than a statistical artifact of households moving across wealth groups.

We then use the estimated responses of net wealth across wealth groups to monetary policy shocks to derive the implied effects on wealth inequality. Our results reveal a previously undocumented feature of the distributional effects of monetary policy. Figure 1 shows that an expansionary monetary policy shock (reduction in interest rate) shock initially reduces wealth inequality, as measured by the top 1% wealth share, but subsequently leads to a persistent increase. By contrast, Figure 2 shows that an asset purchase shock initially increases wealth inequality, but this effect is temporary. We show that the responses of real estate and corporate equities and mutual funds across the wealth distribution play a key role in shaping these dynamics. Overall, because initial wealth levels differ so widely across groups, the largest percentage gain accruing to the bottom 50% on impact translates into a comparatively small dollar gain, while the more modest percentage responses of wealthier groups translate into much larger absolute gains, given their far higher starting wealth. Therefore, the wealth share of the bottom 50% barely moves even as its net wealth swings the most in percentage terms, and by the time the medium-run reversal sets in, it is this group that loses the most in both relative and absolute terms.

From a policy perspective, this paper suggests that assessing the distributional consequences of monetary policy requires looking beyond the short run, and that housing and mortgage markets deserve particular attention given how much they drive outcomes for households at the bottom of the wealth distribution.

Keywords: Monetary Policy, Distributional Financial Accounts, Wealth Inequality

Codes JEL: E52, D31, E44.