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Monetary policy and the financial accelerator in a monetary union

  • Simon Gilchrist
  • Jean-Olivier Hairault
  • Hubert Kempf

In this paper, we consider the effect of a monetary union in a model with a significant role for financial market imperfections. We do so by introducing a financial accelerator into a stochastic general equilibrium macro model of a two country economy. We show that financial market imperfections introduce important cross-country transmission mechanisms to asymmetric shocks to supply and demand. Within this framework, we study the likely costs and benefits of monetary union. We also consider the effects of cross-country heterogeneity in financial markets. Both the presence of financial frictions and the use of a single currency have significant impacts on the international propagation of exogenous shocks. The introduction of asymmetries in the financial contract widens the difference in cyclical behavior of national economies in a monetary union, but financial integration compensates the loss of policy instruments.

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File URL: http://www.federalreserve.gov/pubs/ifdp/2002/750/default.htm
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File URL: http://www.federalreserve.gov/pubs/ifdp/2002/750/ifdp750.pdf
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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 750.

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Date of creation: 2002
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Handle: RePEc:fip:fedgif:750
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  1. Mark Gertler & Simon Gilchrist & Fabio Natalucci, 2003. "External Constraints on Monetary Policy and the Financial Accelerator," NBER Working Papers 10128, National Bureau of Economic Research, Inc.
  2. Gabriele Galati & Kostas Tsatsaronis, 2001. "The impact of the euro on Europe's financial markets," BIS Working Papers 100, Bank for International Settlements.
  3. Anil K. Kashyap & Jeremy C. Stein, 1997. "The role of banks in monetary policy: a survey with implications for the European Monetary Union," Economic Perspectives, Federal Reserve Bank of Chicago, issue Sep, pages 2-18.
  4. Stephen G. Cecchetti, 1999. "Legal structure, financial structure, and the monetary policy transmission mechanism," Economic Policy Review, Federal Reserve Bank of New York, issue Jul, pages 9-28.
  5. Faia, Ester, 2001. "Stabilization policy in a two country model and the role of financial frictions," Working Paper Series 0056, European Central Bank.
  6. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
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