With the Federal Reserve raising interest rates to counter inflation, the labor market may shrink as companies slow their hiring and lay off workers. This could particularly affect Black employees, women, and people with lower levels of education.

That’s the implication of research into the effects of monetary policy on different segments of the US labor market over 30 years. Tel Aviv University’s Nittai Bergman, Northwestern’s David A. Matsa, and Chicago Booth’s Michael Weber find that in tight labor markets—when there’s demand for more workers—expansionary monetary policies have a strong positive effect on these workers. Now with rates rising, these employees may be the ones most affected by job cuts, although continuing high demand for workers could help them.

The research doesn’t attribute any part of the pattern observed to discrimination but points out that groups who are traditionally least “attached” to the labor force—meaning that a smaller share of that population segment is employed—are most affected by these swings. The least-attached groups include Black people, women, and workers with a low level of education.

“Monetary-policy expansions increase hiring, and contractions result in firings,” Weber explains. The last people hired are typically the first to get fired, and the result is that these least-attached groups tend to lose their jobs.

Promoting full employment is part of the central bank’s mandate. In 2020, Fed chair Jerome Powell emphasized that maximum employment was a “broad-based and inclusive goal” whose benefits would particularly help “many in low- and moderate-income communities.” However, it hasn’t been well understood just how expansionary or contractionary policies promote or hinder different types of job seekers.

Building an inclusive labor market

In tight labor markets, when there’s demand for more workers, lowering interest rates can have a large, positive effect on groups that are the least attached to the labor force, such as Black workers.  

Bergman, Matsa, and Weber drew from the US Census Bureau’s Quarterly Workforce Indicators data set to study 895 local labor markets from 1990 to 2019. At the start of 1990, the Fed’s benchmark interest rate was 8.2 percent, before the central bank pushed it close to 0 after the 2008–09 financial crisis.

They identified the least-attached groups of workers. In the time period studied, 55 percent of women, on average, were employed, versus about 68 percent of men. The equivalent figures for Black and white workers were about 57 and 62 percent, respectively. Labor-force attachment ranged from 40 percent for workers with less than a high-school degree to nearly 76 percent for people with at least a bachelor’s. The data didn’t allow the researchers to study variation by race within education categories or similar subsamples.

The researchers developed a New Keynesian model to measure monetary policy’s effects on employment, and they find that expansionary monetary steps—specifically low interest rates—led to larger increases in employment for Black workers, women, and people with the lowest level of education.

Monetary policy’s role in reducing employment inequality, the research indicates, hinges on how tight the labor market is. In the data, a drop in the federal funds rate of one standard deviation—or 2.25 percent during the research period—increased two-year employment growth for Black workers by 0.91 percentage points, or 18 percent of average employment growth, in tight versus slack markets.

For women, the effect was 0.3 percentage points. For workers who didn’t complete high school, it was 0.39 percentage points.

“It’s certainly quite sizable; it’s somewhat unexpectedly large,” Weber says of the effect across all three groups. As rates lower and the labor market tightens, he says, “a company might start out mainly hiring men, and when they can’t hire enough men, they might predominantly hire women.” A similar effect played out in the data pertaining to Black workers, and the trend also extended to level of education, a less-protected category by US federal laws when it comes to hiring.

The pattern is muted for groups with greater participation in the workforce, including white people, men, and those with higher levels of education. And it flips when workers are plentiful: in slack labor markets relative to tight ones, the same rate drop would decrease employment growth for Black workers.

For now, Weber considers the labor market to be still on the tight side, citing relatively low joblessness and employers’ widely documented challenges finding enough workers. This could benefit people in the categories studied, as might the fact that the Federal Reserve shifted in 2020 away from strict inflation targeting to inflation averaging, meaning the central bank can keep interest rates lower for longer in support of the labor market.

With inflation surging amid the war in Ukraine and in the pandemic’s third year, monetary policy is contracting as the Fed is expected to continue raising interest rates over the next several months. The findings imply that the increases in interest rates, once they cool off consumer demand and trickle through to the labor market, will inflict the most pain on people with less education—as well as on Black workers and women.

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