Sectoral comovement, monetary policy and the credit channel

Staff working papers set out research in progress by our staff, with the aim of encouraging comments and debate.
Published on 11 June 2021

Staff Working Paper No. 925

By Federico Di Pace and Christoph Görtz

Using a structural vector autoregression, we document that a contractionary monetary policy shock triggers a decline in durable and non-durable outputs as well as a contraction in bank equity and a rise in the excess bond premium. The latter points to an important transmission channel of monetary policy via financial markets. It has long been recognized that a standard two-sector New Keynesian model, where durable goods prices are flexible and non-durable and services sticky, does not generate the empirically observed sectoral comovement across expenditure categories in response to a monetary policy shock. We show that introducing financial frictions in a two-sector New Keynesian model can resolve its disconnect with the empirical evidence: a monetary tightening generates not only comovement, but also a rise in credit spreads and a deterioration in bank equity.

Sectoral comovement, monetary policy and the credit channel

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