The paper analyses the potential impact on monetary policy transmission stemming from the adoption of a central bank digital currency (CBDC). Bank funding conditions and potential profitability effects are the main channels through which CBDC could have a bearing on monetary policy transmission via banks. As is the case for banknotes, the central bank balance sheet identity operates in effect as an aggregate consistency restriction that prevents CBDC from creating funding scarcity for the banking system as a whole. However, without policy neutralising actions, the new resulting bank funding mix might be less favourable for banks, thus potentially leading to suboptimal outcomes from a monetary policy perspective, such as restrictions in credit supply. Analysing the transmission channels through which banks obtain the necessary reserves suggests that a CBDC could have a material impact on bank lending conditions only if some relevant frictions, such as collateral constraints or liquidity shortages, materialise. Adverse funding conditions, such as those arising from lower bank liquidity or difficulty to access central bank funding or to tap the bond market, further paired with a large demand for CBDC, could affect bank lending conditions and the transmission of monetary policy. Importantly, even in this case, careful design, and implementation, as well as attentive communication can limit an unwarranted tightening coming from funding and liquidity tensions due to the rollout of CBDC. In addition, the central bank could take specific action to prevent or neutralise unwarranted impacts in order to maintain its desired monetary policy stance. In the longer term, a digital euro could support the digitalisation of the euro area banking sector, levelling the playing field for banks more exposed to competition from new players like big tech firms.

This analysis aims at providing an interim assessment of the ECB’s current policy rate tightening cycle. Our analysis suggests that the ECB’s monetary policy measures are tightening financial conditions and reducing credit volumes in the euro area reducing credit volumes. In view of the lags from financing conditions to the real economy, the impact of the policy tightening cycle on inflation can currently be observed only to a limited extent. The scale of the policy tightening required to return inflation to the two percent target over the medium term will need to be regularly reviewed, in view of the uncertainty about the transmission mechanism and in line with the incoming evidence concerning underlying inflation dynamics.

This paper uses vector autoregression model analysis to identify monetary policy shocks on UK data using surprise changes in the policy rate as external instruments and imposing block exogeneity restrictions on domestic variables to estimate parameters from the viewpoint of the domestic economy. The results show large and persistent effects of monetary policy shocks on the domestic economy and point to the critical role of exchange rates and term premia. The analysis resolves important empirical puzzles of traditional recursive identification methods.

We estimate a logit mixture vector autoregressive model describing monetary policy transmission in the euro area with a special emphasis on credit conditions. With the help of this model, monetary policy transmission can be described as mixture of two states, using an underlying logit model determining the relative state weights over time. We show that a widening of the credit spread and a tightening of credit standards directly lead to a reduction of real GDP growth, whereas shocks to the quantity of credit are less important in explaining growth fluctuations. The credit spread and—to some extent—credit standards are also the key determinants of the underlying state of the economy; the prevalence of the crisis state is more pronounced in times of adverse credit conditions. Together with a stronger shock transmission in the crisis state, this provides further evidence for a financial accelerator in the euro area.

We examine whether input–output interactions among industries impact the transmission of monetary policy shocks through the economy. Using vector autoregressive (VAR) methods we find evidence of heterogeneity in the output response to a monetary policy shock in both finished goods industries and intermediate goods industries. While output responses in finished goods industries can be related to heterogeneity in industry characteristics, this relationship is not so obvious for intermediate goods industries. For the intermediate goods industries in our sample, we find new evidence of demand-spillover effects that impact the transmission of monetary policy via input–output linkages.