Financial market fragmentation and monetary transmission in the euro area: what do we know?

Abstract

We provide a survey on the literature examining financial market fragmentation in the euro area and discuss the policy options how to reduce it. The fragmentation has increased markedly since the outbreak of the global financial crisis in 2007. It declined somewhat from late 2012 onwards, but is still above the pre-crisis level. Interest rate pass-through has become less efficient primarily because of increased mark-ups and, to a certain extent, the lower responsiveness of bank interest rates to policy rates. The effectiveness of interest rate pass-through has become more heterogeneous across euro area countries, making a common monetary policy more difficult. The unconventional monetary policy conducted by the European Central Bank has reduced financial market fragmentation notably; however, this policy was not without side effects. Enhancing financial and fiscal stability in the euro area is key for the efficient functioning of the monetary transmission mechanism.