Asymmetric Transmission of Monetary Policy in Europe: a Markov-switching Approach

This paper addresses the question of whether the common monetary policy of the European Central Bank is transmitted asymmetrically within the Euro area. To this end, we employ a Markov switching model to identify a credit channel of monetary policy transmission and investigate whether the credit channel is active or passive across four Euro-area countries (France, Germany, Italy and the Netherlands) as well as the United Kingdom at any given point in time. We find the timing and the duration of the regime switches into and out of the credit channel regime to be fairly synchronous for France, Germany and Italy, while being more heterogeneous for both the Netherlands and the United Kingdom. The asymmetry of the credit channel documented in this paper suggests that the heterogeneity of the monetary transmission mechanism is still very much present in the Euro area. This heterogeneity poses serious policy problems for the European Central Bank (ECB), as monetary policy continues to exert differential impacts across individual member countries of the monetary union. Also, it constitutes a convincing reason of why the ECB, the European Commission and a number of national governments actively push for further liberalization of financial markets in Europe.