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Is European Monetary Policy Appropriate for the EMU Member Countries? A Counterfactual Analysis

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Bernd Hayo (University of Marburg)

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Abstract

This paper analyses whether interest rate paths in the EMU member countries would have been different if the previous national central banks had not handed over monetary policy to the ECB. Using estimates of monetary policy reaction functions over the last 20 years before the formation of EMU, we derive long-run rules the relate interest rate setting to the expected one-year ahead inflation rate and the current output gap. These Taylor rules allow to derive long-run target rates which are employed in the simulation of counterfactual interest rate paths over the time period January 1999 to December 2004 and then compared to actual short-term interest rates in the euro area. It is found that for almost all EMU member countries euro area interest rates tend to be below the national target interest rates, even after explicitly accounting for a lower real interest rate in the EMU period, with Germany being the only exception.

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Paper provided by Money Macro and Finance Research Group in its series Money Macro and Finance (MMF) Research Group Conference 2006 with number 36.

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Date of creation: 02 Feb 2007
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Handle: RePEc:mmf:mmfc06:36

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Related research
Keywords: Taylor rule; monetary policy; ECB; European Monetary Union;

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Find related papers by JEL classification:
E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Richard Clarida & Jordi Gali & Mark Gertler, 1997. "Monetary Policy Rules in Practice: Some International Evidence," NBER Working Papers 6254, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  2. Newey, Whitney K & West, Kenneth D, 1987. "A Simple, Positive Semi-definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix," Econometrica, Econometric Society, vol. 55(3), pages 703-08, May. [Downloadable!] (restricted)
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  3. Bernd Hayo & Boris Hofmann, 2006. "Comparing monetary policy reaction functions: ECB versus Bundesbank," Empirical Economics, Springer, vol. 31(3), pages 645-662, September. [Downloadable!] (restricted)
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  4. James H. Stock & Motohiro Yogo, 2002. "Testing for Weak Instruments in Linear IV Regression," NBER Technical Working Papers 0284, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  5. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December. [Downloadable!] (restricted)
  6. Castelnuovo, Efrem, 2003. "Taylor rules, omitted variables, and interest rate smoothing in the US," Economics Letters, Elsevier, vol. 81(1), pages 55-59, October. [Downloadable!] (restricted)
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  7. Stock, James H & Wright, Jonathan H & Yogo, Motohiro, 2002. "A Survey of Weak Instruments and Weak Identification in Generalized Method of Moments," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(4), pages 518-29, October.
  8. Hagen, Jurgen von & Fratianni, Michele, 1990. "German dominance in the EMS: evidence from interest rates," Journal of International Money and Finance, Elsevier, vol. 9(4), pages 358-375, December. [Downloadable!] (restricted)
  9. Wyplosz, Charles, 1989. "Asymmetry in the EMS: Intentional or systemic?," European Economic Review, Elsevier, vol. 33(2-3), pages 310-320, March. [Downloadable!] (restricted)
  10. Volker Clausen & Bernd Hayo, 2006. "Asymmetric monetary policy effects in EMU," Applied Economics, Taylor and Francis Journals, vol. 38(10), pages 1123-1134, June. [Downloadable!] (restricted)
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  11. Jinyong Hahn & Jerry Hausman, 2003. "Weak Instruments: Diagnosis and Cures in Empirical Econometrics," American Economic Review, American Economic Association, vol. 93(2), pages 118-125, May. [Downloadable!]
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Theodoros S. Papaspyrou, 2007. "Economic Policy in EMU: Community Framework and National Strategies – focus on Greece," GreeSE – Hellenic Observatory Papers on Greece and Southeast Europe 04, Hellenic Observatory, LSE. [Downloadable!]
  2. Sebastian Dullien & Ulrich Fritsche, 2006. "How bad is Divergence in the Euro-Zone? Lessons from the United States of America and Germany," Macroeconomics and Finance Series 200605, Hamburg University, Department Wirtschaft und Politik. [Downloadable!]
  3. Adam S. Posen & Daniel Popov Gould, 2006. "Has EMU Had Any Impact on the Degree of Wage Restraint?," Peterson Institute Working Paper Series WP06-06, Peterson Institute for International Economics. [Downloadable!]
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