The Distributional Effects of Economic Uncertainty

Macroeconomic uncertainty has been shown to have detrimental effects on the over-all economy. However, limited research has focused on understanding the distributional implications of economy-wide fluctuations in uncertainty. We address this critical knowledge gap by developing a comprehensive functional multivariate time series model that links key US macroeconomic aggregates to the cross-sectional distribution of earnings and consumption. Our model, a functional structural VAR (F-SVAR), enables a detailed examination of the impact of uncertainty shocks on the earnings and consumption distribution in the United States. We find that distributional effects of uncertainty unfold in two phases. First, the fraction of employed people earning less than the GDP per capita level decreases, and the share of higher-income workers increases, while the proportion of households reporting low consumption levels increases. Then, the fraction of employed low-income people in-creases, the employed medium-income class is reduced in size, and the consumption distribution reverts to its pre-shock shape. While the first phase reduces the overall degree of inequality in the distribution of income among employed people but in-creases consumption inequality, in the second stage the Gini coefficient for income rises considerably while the effects on the consumption Gini dissipates. Finally, we introduce functional local projections (F-LP) and show that they yield similar results to those of the F-SVAR.