The Financial Accelerator in the Euro Area: New Evidence Using a Mixture VAR Model

Abstract

We estimate a logit mixture vector autoregressive model describing monetary policy transmission in the euro area over the period 2003Q1-2019Q4 with a special emphasis on credit conditions. With the help of this model, monetary policy transmission can be described as mixture of two states (e.g., a normal state and a crisis state), using an underlying logit model determining the relative weight of these states 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 in the logit submodel; the prevalence of the crisis state is more pronounced in times of adverse credit conditions. Together with a stronger transmission of monetary policy shocks in the crisis state, this provides further evidence for a financial accelerator in the euro area. Finally, the detrimental effect of credit conditions is also reflected in the labor market.

Keywords: Credit growth, credit spread, credit standards, euro area, financial accelerator, mixture VAR, monetary policy transmission

JEL Classification: E44, E52, E58, G21