Monetary policy, prudential policy and bank's risk‐taking: A literature review

Abstract

AbstractThe pre‐crisis low‐interest‐rate environment is raising concerns among researchers and policymakers about its impact on the triangle prudential policy‐monetary policy‐bank's risk‐taking. While interest rates are set at low level for inflationary and economic growth reasons, they may lead banks to take more risk, jeopardizing the financial system and impeding the recovery. This paper provides a literature review, on the one hand, on the interaction of monetary and prudential policies through their impacts on bank's risk‐taking, and on the other hand, on the issues of their coordination. Monetary policy appears to have ambiguous effects on banks’ profitability, and then, on banks’ risk‐taking behavior. Despite monetary and prudential policies pursue different objectives, they inevitably interact, raising challenges that face policymakers. Albeit it is argued that monetary policy alone is not sufficient to maintain macroeconomic and financial stability, and that it should be coordinated with prudential policy, the form of this coordination is not clear‐cut.