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Understanding the Link between Money Growth and Inflation in the Euro Area

In: The Travails of the Eurozone

Author

Listed:
  • Katrin Assenmacher-Wesche
  • Stefan Gerlach

Abstract

In preparation for the establishment of European Monetary Union in January 1999, the European Central Bank (ECB) decided to adopt a monetary policy strategy consisting of two main elements or ‘pillars’. The first of these was ‘a prominent role for money with a reference value for the growth of a monetary aggregate’ subsequently defined to be 4.5 per cent annual growth of M3, and the second ‘a broadly-based assessment of the outlook for future price developments’.1 From the outset this two-pillar framework was controversial. One explanation for this might have been that the ECB provided neither an explicit representation of the inflation process nor a motivation for why it necessitated a two-pillar framework. Whatever the reasons, many observers misinterpreted the two pillars as combining monetary and inflation targeting, and criticised the framework for being inconsistent and lacking clarity.

Suggested Citation

  • Katrin Assenmacher-Wesche & Stefan Gerlach, 2007. "Understanding the Link between Money Growth and Inflation in the Euro Area," Palgrave Macmillan Books, in: David Cobham (ed.), The Travails of the Eurozone, chapter 2, pages 10-41, Palgrave Macmillan.
    • Handle: RePEc:pal:palchp:978-0-230-80147-9_2
    DOI: 10.1057/9780230801479_2
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    Keywords

    Euro Area; European Central Bank; Money Demand; Import Price; Phillips Curve;
    All these keywords.

    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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