Central banks

Managing the risks of inflation expectation de-anchoring

07/29/2025 European Central Bank Central banks

This paper investigates the implications of a potential loss of credibility in the central bank’s ability to bring inflation back to target in the medium-term (”de-anchoring”). We propose a monetary policy framework in which the central bank accounts for de-anchoring risks using a regime-switching model. First, we derive the optimal monetary policy strategy, which balances the trade-off between the welfare costs of a stronger response to inflation and the benefits of preserving the central bank’s credibility.

Tariffs across the supply chain

07/29/2025 European Central Bank Central banks

What are the macroeconomic impacts of tariffs on final goods versus intermediate inputs? We set up a two-region, multi-sector model with production networks, sticky prices and wages, and trade in consumption, investment, and intermediate goods. We show that import tariffs on final goods have a smaller negative impact on GDP compared to tariffs on intermediate inputs, as final goods can be more readily substituted with domestic alternatives.

Managing the risks of inflation expectation de-anchoring

07/29/2025 European Central Bank Central banks

This paper investigates the implications of a potential loss of credibility in the central bank’s ability to bring inflation back to target in the medium-term (”de-anchoring”). We propose a monetary policy framework in which the central bank accounts for de-anchoring risks using a regime-switching model. First, we derive the optimal monetary policy strategy, which balances the trade-off between the welfare costs of a stronger response to inflation and the benefits of preserving the central bank’s credibility.

Tariffs across the supply chain

07/29/2025 European Central Bank Central banks

What are the macroeconomic impacts of tariffs on final goods versus intermediate inputs? We set up a two-region, multi-sector model with production networks, sticky prices and wages, and trade in consumption, investment, and intermediate goods. We show that import tariffs on final goods have a smaller negative impact on GDP compared to tariffs on intermediate inputs, as final goods can be more readily substituted with domestic alternatives.

Beyond the short run: monetary policy and innovation investment

07/28/2025 European Central Bank Central banks

This paper provides novel empirical evidence on the impact of monetary policy on innovation investment using unique firm-level data. First, we document the effect of a large, systematic monetary tightening (ECB rate increases from 0% to 4.5% during 2022-23), with average firm-level innovation cuts of 20%. These cuts persist over the medium term, indicating a sustained innovation slowdown. Second, we use the survey to identify elasticities of innovation expenditure to exogenous policy rate changes.

Central bank independence and risk-taking at the zero lower bound

07/28/2025 European Central Bank Central banks

Unprecedented balance sheet expansion in recent years has resulted in heightened financial risk for central banks, reflected initially in higher profits and subsequently in significant losses. Combining data on central bank balance sheets with market data on asset prices, we provide evidence on the evolution and determinants of financial risk-taking by 18 advanced economy central banks. Based on the estimated Value at Risk (VaR), we document that average central bank balance sheet risk increased to about 3 percent of GDP.

Beyond the short run: monetary policy and innovation investment

07/28/2025 European Central Bank Central banks

This paper provides novel empirical evidence on the impact of monetary policy on innovation investment using unique firm-level data. First, we document the effect of a large, systematic monetary tightening (ECB rate increases from 0% to 4.5% during 2022-23), with average firm-level innovation cuts of 20%. These cuts persist over the medium term, indicating a sustained innovation slowdown. Second, we use the survey to identify elasticities of innovation expenditure to exogenous policy rate changes.

Central bank independence and risk-taking at the zero lower bound

07/28/2025 European Central Bank Central banks

Unprecedented balance sheet expansion in recent years has resulted in heightened financial risk for central banks, reflected initially in higher profits and subsequently in significant losses. Combining data on central bank balance sheets with market data on asset prices, we provide evidence on the evolution and determinants of financial risk-taking by 18 advanced economy central banks. Based on the estimated Value at Risk (VaR), we document that average central bank balance sheet risk increased to about 3 percent of GDP.

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