Industries and the Bank Lending Effects of Bank Credit Demand and Monetary Policy in Germany

This paper presents evidence on the industry effects of bank lending in Germany and asks whether bank lending to single industries depends on industry-specific bank credit demand or on monetary policy as determinant of bank credit supply. To this end, we estimate individual bank lending functions for 17 manufacturing and non-manufacturing industries and five banking groups using quarterly bank balance sheet and bank lending data for the period 1992:1-2002:4. The evidence from dynamic panel data models illustrates that industry bank lending responds more to changes in industry-specific bank credit demand than to changes in monetary policy. We report evidence in favor of a credit channel through bank lending, but find the bank lending effects of monetary policy to be very sensitive to the choice of industry. The empirical results, hence, lend strong support to the existence of industry effects of bank lending. In view of this finding, we conclude that bank lending growth and monetary policy effectiveness crucially depend on the industry composition of bank credit portfolios.monetary economics ;

Teaching economics of monetary union with the IS-MP-PC model

This paper explains how the three-equation IS-MP-PC-model can be adapted to discuss macroeconomic adjustment in a monetary union. It introduces a two-country version that is used to illustrate the difficulties of macroeconomic adjustment in the presence of asymmetric demand and financial shocks. The level of analysis does not go beyond the level of a course in introductory macroeconomics. The adaption can be used by instructors in euro area countries to bridge the gap between the standard model and the macroeconomic issues that these countries face or by any instructor who wishes to analyze shocks in regions sharing the same currency. It also allows instructors to debate current policy issues with their students and thus motivate them for the field.</p

The effect of fragmentation risk on monetary conditions in the euro area

This paper measures the output effects of financial fragmentation in the euro area by estimating an extended IS curve. Using a panel approach, we find that two fragmentation measures are significantly related to the output gap: sovereign spreads and spreads in the long-term cost of borrowing of the private sector. We use these output effects to construct a Monetary Conditions Index (MCI) for euro area countries. This index summarizes the combined effect of the monetary policy stance and financial fragmentation. We show that the MCI approach is well-suited to capture cross-country differences in a fragmentation-enhanced measure of the monetary policy stance. Using this metric, we find that during the sovereign debt crisis, the cross-country dispersion of MCI's based on sovereign spreads was much larger than that based on the private cost of borrowing. We also show that convergence is slower for MCI's based on sovereign spreads. We conclude that the causes of fragmentation in monetary conditions may change over time, and that this has implications for the appropriate policy response.</p

Fundamental Volatility is Regime Specific

A widely held notion holds that freely floating exchange rates are excessively volatile when judged against fundamentals and when moving from fixed to floating exchange rates. We re-examine the data and conclude that the disparity between the fundamentals and exchange rate volatility is more apparent than real, especially when the Deutsche Mark, rather than the dollar is chosen as the numeraire currency. We also argue, and indeed demonstrate, that in cross-regime comparisons one has to account for certain ‘missing variables’ which compensate for the fundamental variables’ volatility under fixed rates.

The Activation Conditions of the Transmission Protection Instrument:Flawed by Design?

In 2022, the European Central Bank (ECB) introduced the Transmission Protection Instrument (TPI) to counter the risk of financial fragmentation following the normalisation of monetary policy. The ECB has specified conditions under which the TPI can be activated. This paper examines these conditions and concludes that the activation conditions cannot be applied in an objective and transparent manner. This provides the ECB room for policy discretion and makes the ECB susceptible to pressure from member countries. A possible interpretation is that the activation conditions serve as a fig leaf to cover ECB policies that may go beyond its mandate.</p