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How does monetary policy affect the real economy?

Research by IIES Graduate Student Claire Thürwächter (with co-author Fédéric Holm-Hadulla, European Central Bank) shows the effects vary across firms and economies, and depend on the share of firms' bond financing.

Motivated by the observation that corporate bonds are increasingly important, they ask if this shift in the debt composition matters for monetary policy (MP) transmission (the process through which monetary policy decisions affect the economy in general and the price level in particular).

In their empirical analysis they estimate local projections using variation in aggregate debt structures in a panel of euro countries.

They find that standard MP shocks are less effective if the share of bond finance is higher due to lower overall cost of credit. In contrast, the pass through of longer-term interest rate shocks strengthens with the bond share.

These findings imply that 1) unconventional MP tools, working through longer-term rates, are important even if short-term rates are not constrained at the lower bound, 2) heterogeneity in debt structures leads to an uneven transmission of MP across euro area countries.

The paper has been accepted for publication in the European Economic Review:

Heterogeneity in corporate debt structures and the transmission of monetary policy

Contact information to Claire