Yields on sovereign debt, fragmentation and monetary policy transmission in the euro area: A GVAR approach



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Echevarria-Icaza, Victor and Sosvilla-Rivero, Simón (2017) Yields on sovereign debt, fragmentation and monetary policy transmission in the euro area: A GVAR approach. [ Working Papers; nº 03, 2017, ISSN: 2530-0849 ]

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The divergence in sovereign yields has been presented as a reason for the lack of traction of monetary policy. We use a GVAR framework to assess the transmission of monetary policy in the period 2005-2016. We identify sovereign yield divergence as a key mechanism by which the leverage channel of monetary policy worked. Unconventional monetary policy was successful in mitigating this effect. When exploring the channels through which yields may affect the heterogeneous transmission of monetary policy, we find that the reaction of bank leverage depended substantially on where the sovereign yield originated, thus providing a mechanism that explains this heterogeneity. Second, large spillover effects meant that yield divergence decreased the traction of monetary policy even in anchor countries. Third, the heterogeneity in the transmission mechanism can be in part attributed to contagion from euro area wide sovereign stress. Fiscal credibility, therefore, may be an appropriate tool to enhance the output effect of monetary policy. Given the importance of spillovers, this credibility may be achieved by changes in the institutional make up and policies in the euro area.

Item Type:Working Paper or Technical Report
Additional Information:

This work was supported by the Banco de España through [grant from Programa de Ayudas
a la Investigación 2016–2017 en Macroeconomía, Economía Monetaria, Financiera y Bancaria e Historia Económica]; the Spanish Ministry of Education, Culture and Sport [grant PRX16/00261]; and the Spanish Ministry of Economy and Competitiveness [grant ECO2016-76203-C2-2-P].

Uncontrolled Keywords:Monetary policy; Spillovers; Euro area crisis
Subjects:Social sciences > Economics > Depressions
Social sciences > Economics > Money
JEL:E52, E63, F45, H63
Series Name:Working Papers
ID Code:41608
Deposited On:06 Mar 2017 09:57
Last Modified:19 Feb 2018 12:39

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