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Financial fragmentation and the monetary transmission mechanism in the euro area: a smooth transition VAR approach

Author

Listed:
  • Kotz Hans-Helmut

    (Harvard University, Cambridge, MA, USA)

  • Semmler Willi

    (The New School for Social Research, New York, NY, USA)

  • Tahri Ibrahim

    (The New School for Social Research, New York, NY, USA)

Abstract

This paper investigates the effect of financial fragmentation on the monetary transmission mechanism in different Euro area economies, categorized into two groups: countries considered as “core” economies and countries characterized as “peripheral” economies. We analyze the effects of financial fragmentation on the monetary transmission mechanism through the traditional interest rate channel. To gauge the impact of changes in policy rates on the behavior of real variables such as aggregate output and employment we use a Smooth Transition VAR (VSTAR) model. Employing a nonlinear multivariate time series approach helps us capture the regime-dependent dynamics of the variables under study. The results obtained show that money market rates targeted by the central bank do not completely pass through to banks’ lending rates to firms, particularly in a financially fragmented environment. This finding supports the hypothesis of an impairment of the monetary transmission mechanism as a result of financial fragmentation. Given this impairment in some sectors and regions an accompanying credit volume policy might have been appropriate.

Suggested Citation

  • Kotz Hans-Helmut & Semmler Willi & Tahri Ibrahim, 2018. "Financial fragmentation and the monetary transmission mechanism in the euro area: a smooth transition VAR approach," Studies in Nonlinear Dynamics & Econometrics, De Gruyter, vol. 22(5), pages 1-19, December.
    • Handle: RePEc:bpj:sndecm:v:22:y:2018:i:5:p:19:n:7
    DOI: 10.1515/snde-2017-0097
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    More about this item

    Keywords

    financial crisis; generalized impulse response analysis; interest rate pass-through; monetary policy transmission mechanism; multivariate nonlinear model;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • G01 - Financial Economics - - General - - - Financial Crises
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects

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