Macroprudential Tools Research Articles

Monetary Policy Strategies and Tools: Financial Stability Considerations

This paper examines potential interactions between financial stability and the monetary policy strategies and tools considered in the Federal Reserve’s review of monetary policy strategy, tools, and communication practices. Achieving the Federal Reserve’s goals of full employment and price stability promotes financial stability. A key concern, however, is that with a low equilibrium real interest rate, a low policy rate will be necessary, and in turn, these low rates may contribute to an increase in financial system vulnerabilities. Our analysis suggests that there are typically significant macroeconomic and financial stability benefits of using these tools and strategies, but there are plausible situations in which financial vulnerabilities are such that it would be desirable to limit their use. A clear communications strategy can help minimize financial vulnerabilities. Should vulnerabilities arise, they are often best addressed with macroprudential tools.

The Costs of Macroprudential Deleveraging in a Liquidity Trap

We examine the effects of various borrower-based macroprudential tools in a New Keynesian environment where both real and nominal interest rates are low. Our model features long-term debt, housing transaction costs and a zero-lower bound constraint on policy rates. We find that the long-term costs, in terms of forgone consumption, of all the macroprudential tools we consider are moderate. Even so, the short-term costs differ dramatically between alternative tools. Specifically, a loan-to-value tightening is more than twice as contractionary compared to loan-to-income tightening when debt is high and monetary policy cannot accommodate.

Financial or Non-financial Shocks: Rivals That Play Together

This paper estimates a DSGE model to explore how the economy is affected by financial and non-financial shocks. Bayesian methods and data from the US corroborate the results. This paper first illustrates how the financial sector is not only a transfer channel for exogenous shocks to the real economy, but also a contributor to business cycles through banks’ asset reallocation channel and the quality of capital adequacy constraint. The paper then shows that the contribution of financial and non-financial shocks has varied before, during and after the recent financial crisis; housing demand and asset price shocks are the main contributors and the credit shocks are the most persistent. In addition, the paper presents the application of macroprudential tools, along with their impact on the economy in general, and on welfare in particular. The findings illustrate that the tools which control household borrowing ability, such as loan-to-value or debt-to-income ratios, do not impact welfare significantly. However, the impact of policies on the leveraged sector is substantial. The paper proposes macroprudential policies that allow policy makers to stabilize the economy without changing welfare. Such policies, however, should be timely, targeted and temporary, otherwise they may cause disruptions.

Optimal macroprudential regulation tools

Subject. This article examines the hypothesis that microprudential and monetary policies are not able to provide measures to prevent excessive lending and guarantee the ability of financial institutions to cope with the growing credit bubble. Objectives. The article examines approaches to identifying viable macroprudential policy options and an optimal set of regulation instruments. Methods. For the study, I used a content analysis and generalization. Results. The article presents some results of the assessment of certain macroprudential requirement instruments. Conclusions. The study shows that some macroprudential policy tools can reduce systemic risks associated with credit cycles. Monetary policy alone is not able to effectively withstand the credit bubble risk. All financial policy instruments must be taken and considered together, as they work closely together.

The Vienna Initiative as an Example of Cross-Border Policy Coordination – Case of Bosnia and Herzegovina

At the very beginning of global economic and financial crisis, foreign capital started to withdraw from banking sector of Bosnia and Herzegovina. There was a huge danger that the domestic banking sector would suffer great instability due to high exposure to foreign investors. The big part of foreign funds was in the form of hot money, and the European banks highly exposed to Central and Southeast Europe had to act. EBRD and IMF launched a rescue plan aimed to slow down the deleveraging process and to preserve financial stability. The foreign banks promised that the pace of funds withdrawal would be accommodated to the preserving of home countries financial stability. The meeting about this issue was held in Vienna, which is an international banking hub for part of Central and especially for Southeast Europe. According to the meeting’s place, rescue plan got the name Vienna Initiative (VI). VI was a cross-border activity with the final aim to reduce systematic risks appeared because of the withdraw of foreign capital from BH banking sector. In this view, VI was specific m macroprudential tool for keeping financial stability. In addition, in a broader view, it was cross-border macroprudential policy coordination plan. For Bosnia and Herzegovina, the Vienna Initiative came in the right moment. Without VI it would be very hard or maybe even impossible for Bosnia and Herzegovina to preserve financial stability and to prevent the balance of payment crisis, and even currency crisis and banking crisis. Thus, in the case of BH, VI was very successful cross-border policy coordination due to the large exposure of domestic banking sector to the foreign investors. At the pick of crisis foreign liabilities of BH banking sector were 6 billion BAM (12/2008) i.e. 32,5% of total liabilities or 29% of total asset. All developed models show that foreign liabilities have a great influence on loans, deposits, and industrial production. The unexpected fall in foreign liabilities would have adverse and very strong effects on deposits, loans, and industrial production. All models show that foreign liabilities significantly affect economic and financial activity in Bosnia and Herzegovina. We used different techniques to show influences of foreign liabilities on domestic variables; Vector autoregression in level and in differences, Vector error correction model, Conditional VAR, and multiple regression models. All models show that in case of disorderly withdrawal of foreign funds, fall in industrial production, deposits, and loans would be much higher than in the case when VI is applied. The main conclusion of the article is that VI helped BH to avoid huge and long negative credit growth i.e. credit crunch, and to avoid deeper economic crisis.

Potential Regulatory Obstacles to Crossborder Mergers and Acquisitions in the EU Banking Sector

Over the past decade, cross-border merger and acquisition (M&A) activity in the EU banking sector has remained far below its pre-crisis levels, despite the regulatory reforms implemented after the financial crisis. While the EU equipped itself with the Single Rulebook, convergent supervisory practices, a common crisis management framework and the creation of the Banking Union, ring-fencing and limits to the circulation of funds across borders are still present and the EU still does not reap the full benefits of the Single Market. The purpose of this paper is to map and analyse the elements of the current EU prudential framework that create obstacles to banking groups operating across borders. The results highlight the existence of a number of potential issues at both regulatory and supervisory levels. First, policy reviews, cases and survey-based evidence suggest that the current regulatory framework relies on a territorial approach (cross-border waivers for capital and minimum requirements for own funds and eligible liabilities (MREL), inefficient intra-group financial support arrangements, a multiplicity of macroprudential tools and the existence of options and national discretions within the Single Rulebook), favours pre-positioning resources with the subsidiaries and entails market fragmentation. Ultimately, this may endanger the comparability of institutions across countries and reduce the incentive to conduct cross-border consolidation. Second, despite the progress made in achieving convergence of supervisory practices across the EU, a number of approaches are not yet fully consistent, in particular with respect to the link between prudential requirements and restrictions on distributions, and to a more transparent approach when setting risk-by-risk requirements. The absence of common and fully transparent EU practices for prudential assessment of M&A transactions, including the determination of capital requirements, further adds to the complexity. Finally, it is also suggested that the completion of the Banking Union, by further strengthening the institutional cooperation among Member States and national authorities, has a fundamental role to play in freeing up the potential of enhanced financial integration. There should also be no further delay in the progress made towards the Banking Union’s achievement of single jurisdiction status.

Macroprudential policy and bank systemic risk

This paper investigates the effectiveness of macroprudential policy to contain the systemic risk of European banks between 2000 and 2017. We use a new database (MaPPED) collected by experts at the ECB and national central banks with narrative information on a broad range of instruments which are tracked over their life cycle. Using a dynamic panel framework at a monthly frequency we assess the impact of macroprudential tools and their design on the banks’ systemic risk both in the short and the long run. We furthermore decompose the systemic risk measure in an individual bank risk component and a systemic linkage component. This is of particular interest because microprudential policy focuses on the tail risk of an individual bank while macroprudential policy targets systemic risk by addressing the interlinkages and common exposures across banks. In general, the announcements of macroprudential policy actions have a downward effect on bank systemic risk. On average, all banks benefit from macroprudential tools in terms of their individual risk. We find that credit growth tools and exposure limits exhibit the most pronounced downward effect on the individual risk component. However, we find evidence for a risk-shifting effect which is more pronounced for retail-oriented banks. The effects are heterogeneous across banks with respect to the systemic linkage component. Liquidity tools and measures aimed at increasing the resilience of banks decrease the systemic linkage of banks. Moreover, these tools appear to be most effective for distressed banks. Our results have implications for the optimal design of macroprudential instruments.

Does Leverage Regulation Effectively Reduce the Systemic Risk of the Banking System? Simulation Analysis Based on the Endogenous Network Model

Deleveraging of the banking system is an important task of financial supply-side structural reform in China, and also a key measure to prevent and resolve financial risks in recent years. With reference to Basel III, China Banking Regulatory Commission formally introduced the leverage regulation indicator in 2011. According to the official data, the leverage ratio of China’s major commercial banks has been higher than the minimum regulatory requirement of 4%, but it is also an indisputable fact that the risk of China’s banking system continues to gather after the financial crisis. So does leverage regulation effectively reduce the systemic risk of the banking system? The answer to this question is related to the effectiveness of the leverage as a macro prudential regulatory tool. However, limited by the lack of empirical data, the complexity of the economic and financial system and other factors, the current literature on the effectiveness of leverage as a macro prudential regulatory tool is rare. Therefore, based on the model of Bluhm, et al. (2014), this paper constructs an endogenous network model with leverage constraints, and simulates the risk contagion mechanism and effect under leverage ratio constraints. It is found that in the normal period, leverage regulation will bring the effect of increasing the proportion of risk assets of some banks and decreasing the average degree of network connection between banks. In the crisis period, leverage regulation will increase the number of initial bank failures under exogenous shocks, but will reduce the depth and breadth of risk contagion. On the whole, it is true that the minimum leverage requirement of 4% will lead to a more stable banking system, but the excessive leverage requirement may cause the rise of the systemic risk. In order to maintain the stability of the banking system to the greatest extent, we can implement counter-cyclical and differentiated leverage regulation strategies for banks. At the same time, timely liquidity assistance to the market and improving the loan asset recovery rate of defaulting banks during the crisis will help to enhance the financial stability effect brought by leverage regulation. The possible marginal contribution of this paper is as follows: Firstly, compared with the existing litera- ture on the effectiveness evaluation of macro prudential tools, based on the analysis of the endogenous network model, this paper opens the “black box” of leverage regulatory tools affecting the stability of the banking system, and explains the effect and mechanism of leverage regulation. Secondly, the existing endogenous network model usually fails to consider the impact of the introduction of leverage regulation conditions on the stability of the banking system in normal and crisis periods, which is emphasized in this paper. Thirdly, the study of this paper has strong policy significance. The comparative analysis of the regulatory effect of leve- rage under different market parameter combinations provides theoretical support for regulators to formulate more effective leverage regulatory strategies.

The Impact of Prudential Regulation on Jordanian Banks Liquidity

Regulation of the financial sector is major aspect of consideration by the regulating authority, since financial sector highly influences the performance of the entire economy. The Global Financial Crises underlined the importance of liquidity management,when the credit crisis led to a liquidity crisis. Thus, Jordanian regulatory authorities are trying to achieve and maintain the financial stability by assessment of the banks’ financial condition and through regulations that ensure the stability and prevent failures that can occur under adverse circumstances. The study aim to analyze the impact of a prudential regulation on the Jordanian Banks liquidity. The specific objective in this case is; to determine whether the current prudential regulation enhance the banks liquidity in Jordan, or financial regulation still need additional updates. This study examines the impact of both Microprudential and Macroprudential regulation on Banks Liquidity Ratio, within the context of the Jordanian Banking Sector. To carry out the analysis, managed to collect the annual data for 12 listed during the period 2005-2018 with data arranged in the form of a panel, by using Random Effect Approach Regression, and compared the bank liquidity ratios during period before and after Global Financial Crisis (2008).The results indicate that Macroprudential tools have positive significant impact on Banks Liquidity Ratio, while micro is not. The main conclusions from this research indicate that while liquidity requirements tend to reduce liquidity risk, it appear to be more costly to comply with, reduced bank liquidity, and the banking sector still need additional Regulation updates to enhance banks Liquidity.

The Costs of Macroprudential Deleveraging in a Liquidity Trap

We examine the effects of various borrower-based macroprudential tools in a New Keynesian environment where both real and nominal interest rates are low. Our model features long-term debt, housing transaction costs and a zero lower bound constraint on policy rates. We find that the long-term costs, in terms of forgone consumption, of all the macroprudential tools we consider are moderate. Even so, the short-term costs differ dramatically between alternative tools. Specifically, a loan-to-value tightening is more than twice as contractionary compared to a loan-to-income tightening when debt is high and monetary policy cannot accommodate.

The Macroprudential Role of Stock Markets

A financial crisis is an event of sudden information acquisition about the collateral backing short-term debt in credit markets. When investors see a financial crisis coming, however, they react by more intensively acquiring information about firms in stock markets, revealing those that are weaker, which as a consequence end up cut off from credit. This cleansing effect of stock markets’ information on credit markets’ composition discourage information acquisition about the collateral of the firms remaining in credit markets, slowing down credit growth and potentially preventing a crisis. Production of information in stock markets, then, acts as a macroprudential tool in the economy.

ANALYSIS OF INSTRUMENTAL SECURITY OF MACROPRUDENTIAL POLICY IN UKRAINE

Introduction. The issue of protecting the national economy from systemic risks is burning nowadays. Over the past two decades, systemic crises that periodically occur in financial markets have caused significant losses to the economies of many countries. And Ukraine is not an exception. Its losses from the last crisis of 2014-2015 amounted to about 40% of GDP. Ithas reflected in reduction of economic growth and bank lending. As a result, the function of ensuring financial stability has been included in the NBU's mandate. In the article the main objectives of macroprudential policy for the implementation of regulatory instruments have been identified. The most effective macroprudential instruments used in foreign practice have been studied.The degree of its implementation and efficiency in Ukraine has been analyzed. The potential benefits of macroprudential tools that are going to be emplementedin the near future have been considered. Purpose. The purpose of the article is to study theoretical and practical aspects of macroprudential instruments implementation inUkraine. Method (methodology). In the article the general and special research methods were used, in particular, logical generalization – in characterizing macroprudential policy, identifying its goals and tools, comparative analysis – in comparing thepractice of macroprudential instruments in Ukraine and abroad, determining the benefits of tools, systematization – while grouping the tools according to certain criteria. Results. Based on theresults of the study, conclusions and recommendations were formulated. In particular, the refend to accelerate the process of implementing macroprudential instruments, focusing on the tools that NBU already has in its arsenal, was considered. Possible difficulties for the banking system caused by capital requirements increase have been identified.

Dampening Global Financial Shocks: Can Macroprudential Regulation Help (More than Capital Controls)?

We show that macroprudential regulation can considerably dampen the impact of global financial shocks on emerging markets. More specifically, a tighter level of regulation reduces the sensitivity of GDP growth to VIX movements and capital flow shocks. A broad set of macroprudential tools contribute to this result, including measures targeting bank capital and liquidity, foreign currency mismatches, and risky forms of credit. We also find that tighter macroprudential regulation allows monetary policy to respond more countercyclically to global financial shocks. This could be an important channel through which macroprudential regulation enhances macroeconomic stability. These findings on the benefits of macroprudential regulation are particularly notable since we do not find evidence that stricter capital controls provide similar gains.

House Prices and Macroprudential Policies: Evidence from City-Level Data in India

This paper examines the efficacy of macroprudential policies in addressing housing prices in a developing country while underscoring the importance of fundamental factors. The estimated models using city-level data for India suggest a strong influence of fundamental factors in driving housing prices. There is compelling evidence of the effectiveness of macroprudential tools viz., Loan-to-value (LTV) ratio, risk weights, and provisioning requirements, in influencing housing price movements. A granular analysis suggests an even stronger impact on housing prices of a change in the regulatory LTV ratio for large-sized visa-vis small-sized mortgages, which buttresses their potency in fighting house price speculations. A tightening of the risk weights on the housing assets of banks causes significant downward pressure on house prices. Similarly, regulatory changes in standard asset provisioning on housing loans also influence house prices.

The Effects of the Macroprudential Policies on Turkish Banking Sector1

Purpose – The aim of the research is to test the effectiveness of macroprudential policies that contain different instruments and help to ensure financial stability in Turkey. Design/methodology/approach – The Central Bank of Turkey (CBRT) and the Banking Regulation and Supervision Agency (BRSA) implemented macroprudential policies such as active use of Debt to Income (DTI), Loan to Value ratio (LTV), required reserve ratios, capital requirement, foreign currency lending limits, credit growth limits, interest rate corridor in order to mitigate financial vulnerabilities. These effects have been analyzed and tested with the econometric time series methods in the paper. The data consist banking groups that are Turkish banking sector, deposit banks, development&investment banks. Results – Empirical findings show that tightening macroprudential policies reduce the loan growth of the Turkish Banking sector and deposit banks. However, the magnitude of this effect is relatively small. Unlike these findings, the effects of macro-prudential tools on the loan growth for the Turkish Development&Investment Banks are not significant statistically. Discussion – Aftermath of the global crisis, the new monetary policy, which doesn’t have traditional features, started to be implemented from the middle of 2010 and has been going on as of the beginning of 2019 in Turkey. Accordingly, the Central Bank of Turkey (CBRT) has determined financial stability as a goal in addition to price stability in the framework of the new monetary policy and it has carried out and developed new tools in accordance with this secondary objective. This application has been carried out in coordination with (BRSA). The new monetary policy of the CBRT and the macro-prudential policies of the BRSA mutually aimed to mitigate financial vulnerabilities and provide financial stability in Turkey. When we examine and interpret the empirical results, we can say that the macro-prudential policy tools affect a certain degree of credit growth in the whole banking system. However, this effect is not very strong.

Financial Stability Policies and Bank Lending: Quasi-Experimental Evidence from Federal Reserve Interventions in 1920-21

I estimate the comparative causal effects of monetary policy \leaning against the wind (LAW) and macroprudential policy on bank-level lending and leverage by drawing on a single natural experiment. In 1920, when U.S. monetary policy was still decentralized, four Federal Reserve Banks implemented a conventional rate hike to address financial stability concerns. Another four Reserve Banks resorted to macroprudential policy with the same goal. Using sharp geographic regression discontinuities, I exploit the resulting policy borders with the remaining four Federal Reserve districts which did not change policy stance. Macroprudential policy caused both bank-level lending and leverage to fall significantly (by 11%-14%), whereas LAW had only weak and, in some areas, even perverse effects on these bank-level outcomes. I show that the macroprudential tool reined in over-extended banks more effectively than LAW because it allowed Federal Reserve Banks to use price discrimination when lending to highly leveraged counterparties. The perverse effects of the rate hike in some areas ensued because LAW lifted a pre-existing credit supply friction by incentivizing regulatory arbitrage. My results highlight the importance of context, design and financial infrastructure for the effectiveness of financial stability policies.

Loan-to-value policy and housing finance: Effects on constrained borrowers

This paper explores the effects of an LTV limit on constrained borrowers using comprehensive loan- and borrower-level data from Brazil. LTV limits entail identification challenges because constrained borrowers are no longer directly observed after the policy is implemented. In this paper, partially observed treatment status is addressed by an adjusted difference-in-difference method, focusing on the average treatment effect on the treated (ATT) borrowers (i.e. those that would violate the LTV limit if unconstrained). In the most affected segment, treated individuals cope with the new LTV limit by making higher down payments and also purchasing more affordable houses. They are also less likely to be in arrears, suggesting that LTV limits are effective macroprudential tools by lowering the risk of some originated housing loans.

Singapore

Macroprudential policy in Singapore has centered on the property market, given the importance of this market for households’ balance sheets, banks’ loan portfolios, and the potential systemic risks. In the last decade, the authorities have been proactive in using property-related macroprudential tools to promote a stable and sustainable property market and to encourage financial prudence among borrowers. The Monetary Authority of Singapore (MAS) is the authority with a macroprudential policy mandate.

The impact of macroprudential policies in Latin America: An empirical analysis using credit registry data

Abstract This paper summarises the results of a joint research project by five central banks in Latin America countries (Argentina, Brazil, Colombia, Mexico and Peru) to evaluate the effectiveness of macroprudential tools and their interaction with monetary policy. Using meta-analysis techniques, we summarise the results of a common empirical framework based on confidential bank-loan data. The main conclusions are that (i) macroprudential policies have been quite effective in stabilising credit cycles. The propagation of the effects to credit growth is more rapid for policies aimed at curbing the cycle than for policies aimed at fostering resilience; and (ii) macroprudential tools have a greater effect on credit growth when reinforced by the use of monetary policy.

Higher Bank Capital Requirements and Mortgage Pricing: Evidence from the Counter-Cyclical Capital Buffer*

Abstract We identify the effects of the Basel III macroprudential tool Counter-Cyclical Capital Buffer on mortgage lending. Using the first dataset on responses from multiple banks to each household, we find no evidence of explicit rationing. But as the CCyB applied only to mortgages, banks with higher mortgage specialization or lower capital cushions raise prices by an extra eight basis points. Bank level data then show that this allows them to slow their mortgage growth and rebuild capital cushions. While market-wide mortgage growth did not slow down significantly, the composition of mortgage suppliers thus moved to previously less exposed banks.