Endogenous Financial Structure and the Transmission of ECB Policy

There is a widely held view that existing differences in the capital and money market structures across EMU countries are an important matter of concern for the ECB, because they might hinder the uniform transmission of monetary policy actions. We argue that many aspects of financial structure are endogenous to the monetary policy regime in place. It is shown that capital market structures are heavily correlated with past inflation and inflation uncertainty. Since the EURO regime imposes a unified monetary policy, we suspect that the differences will wither. A single currency, a single money market rate and a uniform reserve requirement will rapidly harmonize the money markets. In sum, we predict that differential responses in the transmission of monetary policy actions through the money and capital markets are of minor concern for the ECB.