A healthy relationship and financial stability even in a healthy relationship, there can be issues. Financial stability and optimal interestrate policy federal. These findings raise the question of whether and to what extent the highlighted spillovers have shaped the overall impact of targeted microprudential policy on financial stability. Wp1876 understanding the macrofinancial effects of household debt. Macroprudential frameworks, implementation, and relationship with other policies reserve bank of india abstract. Louis alessandro rebucci interamerican development bank eric r. This includes regional, national, and global economies while macroeconomics is a broad field of study, there are two areas of research that are emblematic of the discipline. Thus, while i believe that, in most circumstances, the goals of monetary policy and financial stability are complementary, we need to recognize that, at times, actions taken to foster financial stability and those taken to promote our monetary policy goals might be in conflict, at least in the short run. Thakor olin school of business, washington university in st. This paper is related to the literature on the relationship between growth and stability, in which empirical evidence often leads to mixed results.
Financial stability, growth and macroprudential policy. Prudential policy needs to acquire a new macro dimension. Understanding the macro financial effects of household debt. Governmentfinancial sector relationship healthy financial system ensures smooth policy transmission mechanism financial markets host fiscal and monetary transmission channels should consider financial stability as an explicit economic policy objective. Yet history shows that financial crises wreak havoc with public finances. Economic fluctuations and growth program, international finance and macroeconomics program, monetary economics program there is a new and now extensive literature analyzing government policies for. Five points about monetary policy and financial stability. This study derives an optimal macroeconomic policy combination for financial. Building an effective financial stability policy framework lse. Section two provides a conceptual framework for the relationship between monetary policy, financial conditions, and financial vulnerabilities, also.
The nexus of financial inclusion and financial stability. Calibrating macroprudential policy to forecasts of financial stability scott a. Simulations show that optimal policy significantly increases welfare relative to a classic taylor rule. Credit booms and macrofinancial stability request pdf. Monetary policy in normal times in normal times the ecbs monetary policy strategy, in line with its definition of price stability, aims to keep inflation rates below, but close to, 2% over the medium term.
Macroprudential tools were actively used in india long before the onset of the global financial crisis. Optimal policy for macro financial stability gianluca benigno, huigang chen, christopher otrok, alessandro rebucci, and eric r. New framework for measuring and managing macrofinancial risk and financial stability dale f. Price stability, financial stability and efficiency, and monetary policy speech by lucas papademos, vice president of the ecb at the third conference of the monetary stability foundation on challenges to the financial system ageing and low growth frankfurt am main, 7 july 2006. All of the above raise important questions about the optimal policy response to credit booms. Optimal policy for macro financial stability, staff reports 899, federal reserve bank of new york. We consider the optimality of various institutional arrangements for agencies that conduct macroprudential regulation and monetary policy. Competition policy was not applied to the banking sector for a long period because it was thought. Given the key role that central banks play in financial stability analysis and macro prudential policy making, the question on the relationship with monetary policy naturally arises. Optimal monetary policy and asset price misalignments. Lopez federal reserve bank of san francisco abstract the introduction of macroprudential responsibilities at central banks and. Monetary policy uses a variety of tools to control one or both of these, to influence outcomes like economic growth, inflation, exchange rates with other currencies and unemployment. Monetary policy, financial conditions, and financial stability.
Gianluca benigno, huigang chen, christopher otrok, alessandro rebucci, and eric r. Optimal policy for macro financial stability gianluca benigno london school of economics huigang chen marketshare partners christopher otrok university of missouri federal reserve bank of st. Financial stability generally, and financial cycles in particular, hardly feature in the design of fiscal policy. Optimal policy for macrofinancial stability new york fed. Calibrating macroprudential policy to forecasts of. In this forthcoming brookings paper, researchers from harvard business school and the behavioral finance and financial stability initiative assess the merits of bank regulation since the financial crisis of 20082009. However, there are new challenges to the conduct of these macro financial stabilization policies. Optimal policy for macrofinancial stability federal reserve. Jun 09, 2014 the renewed recognition of the importance of preserving financial stability is entirely appropriate and perhaps long overdue. Jan 14, 2020 spillovers and the optimality of sectorally targeted macroprudential policy. The role of regulation and competition policy, analyzes the relationship between competition and stability in banking and derives the policy implications for regulation and competition policy. And finally, i will turn to what this all means for monetary policy and financial stability in central and.
Notwithstanding, the inherent difficulty in defining the financial stability objective with precision, a key issue for the central bank is the relationship between financial stability and price stability. Brunnermeier and sannikov 2015 study the tradeoff between financial stability and optimal allocation of capital under a stochastic growth model with shocks to capital endowments and frictions in international capital markets that prevents risk sharing. The adverse impact of macro risk on growth of gdp was found to be immediate but the impact of market risks indicators increase in size and dominate over time. Bank capital, financial stability and basel regulation in a. There is a new and now large literature analyzing government policies for financial stability based on models with endogenous borrowing. Arguably, the debate on the micro and macroprudential dimensions of financial stability is one such example. Monetary policy rests on the relationship between the rates of interest in an economy, that is the price at which money can be borrowed, and the total supply of money.
With 189 member countries, staff from more than 170 countries, and offices in over locations, the world bank group is a unique global partnership. Understanding the macrofinancial effects of household. Optimal policy for macrofinancial stability, nber working papers 26397, national bureau of economic research, inc. Given the key role that central banks play in financial stability analysis and macroprudential policymaking, the question on the relationship with monetary policy naturally arises. Macroprudential supervision and financial stability. Price stability, financial stability and efficiency, and. Moreover, we examine if monetary policy and macroprudential regulation should jointly target non. If there are synergies or tradeoffs between inclusion and stability, policy decisions must be informed, and the policy setting, design, and implementation adjusted accordingly. Unlike the existing literature, there is a new policy tradeoff between the cyclical and trend consumption growth. The reserve banks approach to financial stability is evolving and is becoming more intensive and more intrusive in terms of both regulation and supervision. Towards a financial stabilityoriented fiscal policy.
The micro and macroprudential dimensions of financial stability promising discussions are often derailed by lack of precision in the definition of terms, when interlocutors think they share the same understanding but, in fact, do not. The analysis is based on a dynamic stochastic model with imperfect credit markets. Indeed, it has been argued that it may be preferable or more useful to define financial stability as absence of instability. Secondly, under controllability conditions, optimal policy rules parameters of financial stability indicators can all be identified, along with a bounded solution stabilizing an unstable economy. New framework for measuring and managing macrofinancial.
Macroeconomic risk macroeconomic risk derives from the behaviour of industries and governments and the relationships between them rather than from individual companies. Integrating financial stability into monetary policy. Macroprudential regulation is an approach to financial regulation which is aimed at mitigating. Financial stability and optimal interest rate policy. Financial stability, growth and macroprudential policy chang ma fudan university fisf september 18, 2018 abstract this paper studies the effect of optimal macroprudential policy in a small open economy model where growth is endogenous. Spillovers and the optimality of sectorally targeted macroprudential policy. The interaction between monetary policy and macroprudential policies. Financial stability and optimal interestrate policy andrea ajello thomas laubach david l opezsalido taisuke nakata federal reserve board february 2015 abstract we study optimal interestrate policy in a new keynesian model in which the economy is at risk of experiencing a nancial crisis and the probability of a crisis depends on credit. In this paper, we show that the same set of policy tools that implement the. Optimal policy for macrofinancial stability ideasrepec. In this paper we abstract from the potential use of capital controls as macroprudential.
Banking union single supervisory mechanism economic interplay between monetary policy and prudential supervision strict separation envisaged by the single supervisory mechanism legal framework legal framework does not prevent a more holistic approach financial stability is a legitimate consideration for monetary policymaking price stability is a legitimate concern for. That is quite natural as not all individuals are similar and if they live together things are not going to be simple. Optimal policy for macro financial stability gianluca benigno, huigang chen, christopher otrok, alessandro rebucci, eric r. Christopher otrok university of missouri federal reserve bank of st. Interaction between monetary policy and macroprudential. There is a new and now large literature analyzing government policies for financial stability based on models with endogenous borrowing constraints. However, the current discussion of the relationship between financial stability and monetary policy has mostly lacked rigorous theoretical and empirical analysis. Understanding the macrofinancial effects of household debt. Capital regulation, monetary policy and financial stability. Furthermore, there is a new policy tradeoff between cyclical and trend consumption growth. This paper nds a negative relationship between average growth and nancial stability for macroprudential policy, consistent withranci ere et al. Louis alessandro rebucci johns hopkins university cepr and nber eric r. International finance and macroeconomics, monetary economics. Let me give you a taste of some of the specific areas the bank is looking at in terms of the.
In this paper, we show that the same set of policy tools that. Apr 16, 2012 the optimal policy can be expressed as a relationship a target criterion between deviations in the price level from some target value the price gap and the output gap. New framework for measuring and managing macrofinancial risk. A global perspective by adrian alter, alan xiaochen feng, and nico valckx imf working papers describe research in progress by the authors and are published to elicit comments and to encourage debate. However, this relationship depends on calibrations and might become. Why macro prudential policy is needed one of the main lessons from the global financial crisis is that price stability is not sufficient to guarantee financial stability. Governmentfinancial sector relationship healthy financial system ensures smooth policy transmission mechanism financial markets host fiscal and monetary transmission channels should consider financial stability as an explicit economic policy objective and develop a policy to achieve it macroprudential policy. Building on recent advances, this paper provides a framework. Financial stability and macroprudential supervision. These normative analyses build upon the concept of constrained efficient allocation, where the social planner is constrained by the same borrowing limit that agents face. An optimal analysis of the countercyclical buffer in basel iii regulation reveals that risks to financial stability outweigh the extra accumulation of bank capital. Young federal reserve bank of new york staff reports, no.
The remainder of the paper is organized as follows. Optimal development policies with financial frictions. Alternative policy paths using historical examples illustrate the usefulness of the proposed policy rule. Preventive measures acting in this direction are known between researchers and policy makers as macroprudential policies. Financial stability, growth and macroprudential policy chang ma y johns hopkins university october 20, 2017. Bank capital, financial stability and basel regulation in.
Macro prudential supervision and financial stability reshma mahabir, ph. Hoenig president, federal reserve bank of kansas city. Sections 8 and 9 compare the highly durable economy with the nondurable economy and analyze the relationship between durability and welfare. When a central bank is in charge of price and financial. Macroeconomic stability, financial stability, and monetary policy. That said, even in this ideal world, the conduct of both policies will need to. In this paper, i address the above question using a new keynesian dynamic stochas. E61, f38, f44, h23 abstract there is a new and now large literature analyzing government policies for financial stability. In order to clarify the relationship between the optimal monetary policy and asset price volatility, we simulate the macroeconomic performance of optimal reaction function of considering and. Financial stability, monetary stability and growth. In conjunction with other board divisions, the division identifies and analyzes potential threats to financial stability. In a calibrated version of the baseline model, i find that the impact of the optimal macroprudential policy on growth and welfare is quantitatively small even if it significantly increases financial stability.
For more information on the outlook see geoff bascands speech titled the reserve bank is renewing its approach to financial stability. One of the major changes in this new international economic environment is a significant decline in the neutral real interest. It is observed that the macro risk indicators have substantial adverse impact on the financial market indicator and its optimal lag works out to be about six months. Optimal policy for macrofinancial stability federal. It concerns fiscal and monetary policies, trade and investment flows and political developments on a national and international scale, and the effects of these factors on financial portfolios and company valuations. Financial stability and optimal interestrate policy. This paper aims at investigating first, the possibly timevarying empirical relationship between price and financial stability, and second, the effects of some macro and policy variables on this. Marrying the micro and macroprudential dimensions of.
Indeed, assessing the costs and benefits of possible monetary policy interventions to address financial stability concerns continues to be a priority in the leadup to the renewal. The fed financial stability federal reserve system. Monetary policy and economic policy scientific papers. Optimal trade policy with trade imbalances sciencedirect. Optimal policy for macrofinancial stability gianluca benigno london school of economics huigang chen marketshare partners christopher otrok university of missouri federal reserve bank of st. Central bank independence and macroprudential regulation. The division of financial stability is responsible for coordinating and supporting the boards work on financial stability. Thus, the countercyclical buffer should be implemented more aggressively in a low interestrate world. Dec 06, 2016 my book, competition and stability in banking. Optimal policy for macrofinancial stability with gianluca benigno, huigang chen, alessandro rebucci and eric young formerly titled optimal policy with occasionally binding credit constraints monetary and macroprudential policies. Should not fiscal policy, too, be an essential part of the postcrisis macro financial stability framework. The regulatory tools, and the power to activate them, reside with. In the case of the costpush shock, policy ensures that the output gap gradually narrows as the price level gradually convergences back to its original level.
Spillovers and the optimal design of macroprudential measures. This paper examines the roles of bank capital regulation and monetary policy in mitigating procyclicality and promoting macroeconomic and financial stability. Optimal policy for macro financial stability, nber working papers 26397, national bureau of economic research, inc. The optimal policy can be expressed as a relationship a target criterion between deviations in the price level from some target value the price gap and the output gap. The renewed recognition of the importance of preserving financial stability is entirely appropriate and perhaps long overdue. Even with the best framework, however, given the variety of structural. The ecb has a clear mandate to preserve price stability over the medium term. Much less, however, has been written about the optimal monetary instrument to maintain financial stability. Financial stability and optimal interestrate policy andrea ajello thomas laubach david l opezsalido taisuke nakata federal reserve board august 2016 abstract we study optimal interestrate policy in a new keynesian model in which the economy can experience nancial crises and the probability of a crisis depends on credit conditions. Capital controls, capital flows, exchange rate policy, financial frictions, financial crises, macro financial stability, prudential policies.
A global perspective prepared by adrian alter, alan xiaochen feng, and nico valckx1 authorized for distribution by claudio raddatz april 2018 abstract we confirm the negative relationship between household debt and future gdp growth. Optimal policy for macrofinancial stability request pdf. We tackle the design of optimal policy using a tractable workhorse macrodevelopment. Cgbs conference, june 56, 2014 the views expressed are those of the author and not necessarily those of the central bank of trinidad and. Accommodative policy refers to a stance of monetary policy that is more. Monetary policy, fiscal policy and financial stability. Financial stability, wealth effects and optimal macroeconomic policy. Optimal policy for macrofinancial stability, research department publications 4818, interamerican development bank, research department. Spillovers and the optimal design of macroprudential.