ZLB and Beyond: Real and Financial Effects of Low and Negative Interest Rates in the Euro Area

This paper studies the effects of low and negative interest rates in the euro area on a wide range of macroeconomic and financial variables and documents the changes in the monetary transmission mechanism once the policy rate reaches the zero lower bound (ZLB). To that end, we employ a set of non-linear time series frameworks, namely a time-varying parameter structural vector autoregression with stochastic volatility and non-linear local projections and perform identification via both sign restrictions and high frequency information approaches. Our findings suggest that the policy rate has continued to support the aggregate demand in the euro area even in sub-zero territory. Despite that, we find that the reaction of inflation and its expectations has significantly deteriorated in the post-ZLB period. Regarding the transmission mechanism, we show that policy rate cuts below zero have a more persistent impact on the term structure and interest rate expectations. In addition to that, our results suggest that negative interest rates do not cause a contraction in lending despite the disconnect of lending rates from the policy rate. In general, our findings contribute to the growing list of literature which questions the empirical relevance of the ZLB.