Financial Innovation, Macroeconomic Volatility and the Great Moderation

In the paper we propose an assessment of the role of financial innovation in shaping US macroeconomic dynamics. We extend an existing model by Christiano, Eichenbaum and Evans which studied the transmission of monetary policy im- pulses to business and corporate sector financing variables just before the Great Moderation period. By investigating the properties of the model over a longer time span we show that in the later period a change in the monetary policy trans- mission mechanism is likely to have occurred. In particular, we argue that the role of financial innovation has signify- cantly altered the transmission of shocks.