Monetary Transmission in the Euro Area: Does the Interest Rate Channel Explain it All?

Abstract

Drawing on recent Eurosystem research that uses a range of econometric techniques and a number of new data sets, we propose a comprehensive description of how monetary policy affects the euro area economy.We focus mainly on three questions: (1) what are the stylized facts concerning the transmission of monetary policy for the area as a whole and for individual countries?(2) can the "classic" interest rate channel (IRC) alone, without capital market imperfections, explain these facts?(3) if not, is the bank lending channel a likely candidate to complete the story?We find plausible euro-area wide monetary policy responses for prices and output that are similar to those generally reported for the U.S.However, investment (relative to consumption) seems to play a larger role in euro area monetary policy transmission than in the U.S. We cannot reject the hypothesis that the IRC completely characterizes transmission in a few countries, and estimate it to be substantial in almost all.Where the IRC is not dominant, there is normally some direct evidence supporting the presence of a bank lending channel (or other financial transmission channel).The cases where financial effects appear important can be further split according to whether they primarily relate to consumption or investment.

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