Jagged Cliffs and Stumbling Blocks: Interest Rate Pass-through Fragmentation during the Euro Area Crisis

Sarah Holton and Constanza Rodriguez d’Acri
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Sarah Holton: Central Bank of Ireland
Constanza Rodriguez d’Acri: Central Bank of Ireland

No 01/RT/15, Research Technical Papers from Central Bank of Ireland

Abstract: The financial crisis has been characterised by fragmentation in the transmission of monetary policy, reflected in high dispersion in the cost of bank finance for euro area firms. This paper shows the first results using a new micro dataset on euro area banks to identify individual bank balance sheet characteristics that have contributed to this fragmentation. Interest rate pass-through heterogeneity is estimated using an error correction framework, which captures banks’ funding constraints and balance sheet structures. Our results show incomplete pass-through of changes in money market rates targeted by the central bank to firms’ lending rates charged by banks over the crisis, with increases in sovereign bond yields affecting the cost of finance for firms, particularly in stressed countries. We find that individual bank characteristics have an effect on the pass-through of policy rate cuts over the crisis, even after we control for changes in macroeconomic conditions across countries. The effect is greatest when looking at characteristics that capture bank funding difficulties, with riskier banks transmitting less of the policy rate cuts through to firms. This suggests that a recovery in banks’ balance sheets,funding capacities and risk perception will help reduce fragmentation in the transmission of monetary policy.

Keywords: Interest rate pass-through; Monetary policy transmission; Financial crises. (search for similar items in EconPapers)
JEL-codes: E43 E44 E52 E58 G01 G20 (search for similar items in EconPapers)
Date: 2015-06
New Economics Papers: this item is included in nep-cba, nep-eec, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (41)

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