Taylor rules: Consequences for wealth and income inequality

Abstract

This paper compares the consequences of “active” vs. “passive” Taylor rules for wealth and income inequality. Since the distinction is operative only along transitional paths, we compare the implications for two forms of government expenditure that generate such transitions. Our results confirm that the contrasting effects obtained previously for the aggregate economy have significant distributional consequences. For an active Taylor rule, whether the government increases its expenditure on consumption, or productively, wealth inequality will increase. Expenditure on the two public goods yields divergent paths for income inequality. Government consumption expenditure raises income inequality; productive government expenditure reduces it. If the Taylor rule is passive, an increase in either form of government expenditure reduces wealth inequality initially and over time. Income inequality initially increases, but declines over time, although remaining above its previous steady-state level.