Energy price shocks, unemployment, and monetary policy

Does monetary policy face a trade-off between stabilizing inflation and unemployment as soaring energy prices hit the unemployed harder than the employed? Data from the euro-area Consumer Expectations Survey show that job losses not only force workers to lower their consumption but also to devote a higher proportion of it to energy. I incorporate this evidence into a tractable heterogeneous-agent New Keynesian model with labor market frictions, where energy acts as both a complementary input in production and a non-homothetic consumption good. Unemployment forces workers to consume less due to imperfect insurance and, since preferences are non-homothetic, to allocate a larger consumption share to energy. The heterogeneous exposure of the labor force to rising energy prices induces an endogenous trade-off for monetary policy: the optimal response involves partly accommodating inflation to limit the increase in unemployment and, hence, prevent workers from becoming more exposed to the shock.