In this paper we show how interbank market frictions can play an important role in propagating and enhancing the effects of shocks in a currency union, and discuss the efficacy of two unconventional policy measures; multi-period central bank refinance operations and large scale asset purchases....

Without a Lender of Last Resort for government debt, multiple equilibria in bond markets may ensue where default emerges for non-fundamental reasons. The stabilising power of central bank interventions does not build on a real debt depreciation via inflation, but on a swap of bonds and central...