The Monetary policy transmission mechanism in the Euro Area: more evidence from

This paper analyses the monetary policy transmission in the Euro Area, through both the use of the VAR methodology, and the study of the MFI balance sheets.Central bankers rely heavily on the transmission mechanism of monetary policy when they take their decisions. So, studies about how the economic variables change after a monetary policy action represent crucial information that influence policy maker’s expectations and choices. As for the Euro Area, the structural changes that have affected the economy, make the analysis more complicated. In fact, though the intensification of the researches, we do not completely know how it works. The transition to a new currency and monetary policy is something economic agents need to prepare for, and to adjust to, over several years. Furthermore, the evidence that Euro Area countries have different economic (and social) structures complicates the analysis. Several authors have argued that the differences between Euro Area countries are so strong to make monetary policy decisions partly inefficient. Cecchetti (1999)1 concluded that legal and judicial diversities across countries, by affecting the financial structures of the Euro Area members, determine deep asymmetries in the response to policy. Mihov (2001) provided econometric evidence in support of this conclusion. At the other hand, Favero, Giavazzi and Flabbi (1999) and, Angeloni and Ehrmann (2003) pointed out that a convergent process among the Euro Area countries is in act, and that the monetary transmission mechanism in Europe is not so heterogeneous.
The present study has the aim of analysing the monetary policy transmission mechanism in Europe, by taking into particular consideration the lending channel. First of all, we will use the Vector Autoregression to get the response functions of each Euro Area country. After that, we will turn to analyse the structure of the MFI balance sheets with the aim of finding differences an analogies among countries, that could affect the monetary transmission. Comparing the results of the two analysis, I found out that countries with similar structures of the MFI balance sheets respond likewise to a monetary policy tightening. This is a proof of the banks’ importance in the monetary policy transmission mechanism within Europe. Moreover, a compared analysis of how these balance sheets have changed over time, provide evidence of a slow convergent trend among Euro Area countries, that could improve the homogeneity of the responses to monetary policy.
This paper is structured as follows: in the next section, a brief summary of the recent literature is presented; in section 3, a VAR analysis provides the response functions of a monetary policy shock for each Euro Area country; in section 4, I examine the banking sector, and in particular the structure of the MFI balance sheets. In section 5 the results of the previous analysis are compared.