Research

In mid-2024, the European Central Bank (ECB) and the U.S.\ Federal Reserve (Fed) pursued divergent monetary policies, breaking a period of monetary policy synchronization. This paper asks whether such divergence matters for the transmission of ECB monetary policy. Using state-dependent local projections, I show that during U.S.\ monetary expansions, an ECB tightening generates sign-reversed responses: output and inflation rise. By contrast, a Fed tightening is contractionary regardless of ECB policy. I rationalize these findings in a two-country New Keynesian DSGE model with financial frictions operating through a global investor. Dollar as the international currency, a no-arbitrage condition linking capital returns, and deviations from uncovered interest parity jointly imply that an easing of U.S.\ monetary policy lowers dollar funding costs and relaxes the global investor's balance-sheet constraint, prompting a reallocation toward higher-return euro area assets, and thereby conditioning the transmission of ECB monetary policy.