European Central Bank blog finds euro area monetary policy has a weaker impact when economic uncertainty is high

The European Central Bank published a research blog post examining whether elevated economic uncertainty weakens monetary policy transmission in the euro area. Using uncertainty about economic growth as the focus, the authors find that monetary policy shocks have a more muted effect on inflation and unemployment when uncertainty is high, consistent with households and firms reacting less to changes in borrowing costs. The analysis uses the interquartile range of euro area industrial production as a proxy for uncertainty, estimated following Falconio and Manganelli (2025) and excluding Ireland due to volatility. Monetary policy shocks are identified from financial market movements in a tight window around ECB decisions and estimated in a local projections framework with an interaction between shocks and the uncertainty measure. For a surprise 100-basis point drop in the three-month overnight index swap rate, the peak inflation impact (after two years) is about 9 basis points lower and not statistically different from zero under high uncertainty, while the peak unemployment impact (after one year) is about 17 basis points smaller; high and low uncertainty are defined as the top and bottom 10% of the uncertainty indicator’s distribution. The post concludes that achieving a given intended economic effect may require more forceful policy actions in high-uncertainty environments, while noting that uncertainty can also depress spending independently of central bank actions and the results do not address the overall desired stance of policy.