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The literature on the effects of country risk premium shocks has largely focused on emerging market economies. We empirically show that in developed economies, risk premium shocks explain a non‐trivial share of aggregate fluctuations and are key drivers of real activity during crises. Our empirical results and results from a two‐country New Keynesian model indicate that an increase in the risk premium leads to a reduction in aggregate output under monetary union, but not so in countries with flexible exchange rates and independent monetary policy. Model simulations suggest that managing international capital flows enhances welfare in countries under monetary union. [ABSTRACT FROM AUTHOR]

Using nonlinear Bayesian methods that fully account for the binding zero lower bound (ZLB), we estimate a large-scale macrofinance DSGE model on U.S. data. Counterfactual analysis suggests that by easing financing conditions, quantitative easing facilitated a net increase in aggregate investment. The resulting expansion of firms' production capacities lowered their marginal costs. These disinflationary supply side effects dominated over the inflationary effects induced by the stimulus to aggregate demand. At the ZLB, the concomitant rise in real interest rates, in turn, induced a net fall in aggregate consumption. [ABSTRACT FROM AUTHOR]