Examining Macroprudential Policy Through a Microprudential Lens

This study investigated the causal interactions between macroprudential policy, measured by the Macroprudential Policy Index (MPI), and financial cycles represented by the Aggregate Financial Cycle (AFC) and the Credit and Asset Prices Financial Cycle (CAFC) in South Africa from 1970q1 to 2023q2. Additionally, the study explored the effects of macroprudential policy during different phases of financial cycles. Using the time-varying Granger-causality model, the study found that the MPI Granger-caused financial cycles during the 2003/07 credit boom in South Africa, while the AFC and CAFC Granger-caused macroprudential policy during the Covid-19-induced collapse of financial markets. The results suggest that macroprudential policy is employed more proactively during financial booms and more reactively during financial busts in South Africa. The Markov switching dynamic regression model used to assess the MPI's effects revealed that macroprudential policy's effectiveness is stronger during financial busts and weaker during financial booms in South Africa. This is because financial institutions in South Africa tend to resist stricter regulations during boom phases due to heightened optimism about future prospects. Conversely, they are more receptive to stimulatory interventions during bust phases. Based on these findings, it is recommended that the South African Reserve Bank and the Prudential Authority use macroprudential policy more assertively during financial booms to enhance its effectiveness. This could involve setting more stringent parameters upon activating macroprudential policy tools or complementing macroprudential policy with monetary policy during financial booms.

The aim of macroprudential policy is to ensure financial stability by avoiding the outbreak of banking crises, which have a dangerous effect on the economy. Is macroprudential policy effective in the face of banking crises and systemic risks? The macroprudential policy has received significant interest from policy-makers and researchers. A few developing countries were using macroprudential policy tools well before the 2008 financial crisis, but significant progress has been made thereafter in both emerging and industrialized economies to put in place specific institutional settings for macroprudential policy. The fundamental objective of macroprudential policy is to maintain the stability of the financial system by making it more resistant and preventing the risk build-up. The objective of this paper is to analyze the important role of macroprudential policy in ensuring overall financial stability. Since the financial crisis of 2008, macroprudential policy has been increasingly used across economies. These measures aim at smoothing financial cycles and thereby mitigating the impact on the real economy, thereby allowing monetary policy to focus on price stability and promote growth and full employment. Macroprudential policy instruments fall into two categories, depending on their purpose, namely, to prevent procyclicality or to enhance the resilience and soundness of the financial system against shocks. The first category of instruments is used to stop bubbles from forming and smooth cycles, i.e. to force the debt-equity of economic operators on an income basis to prevent unsustainable credit bubbles, or to require dynamic loss provisioning rules. The second category of macro-prudential policy is to improve the resilience to shocks, such as capital surcharges for systemic institutions or the requirement to hold liquid assets to cope with market panics, and to make the financial system less complex. Keywords: macroprudential policy, financial stability, tools and measures, systemic risks.

Interaction between monetary and macroprudential policies

The effects of elections on macroprudential policy

This paper studies the impacts of fiscal policy, macroprudential policy as well as their interaction on financial stability in Vietnam during the global economic crisis 2008–2009. Using Structural Equation Modeling (SEM), the study shows that both fiscal policy and macroprudential policy have a great impact on the financial stability. In particular, fiscal policy has a negative impact while macroprudential policy shows a positive effect on the financial stability in Vietnam. Besides, evidences that indicate a negative relation between the fiscal policy and macroprudential policy in Vietnam are also implied in the study’s outcomes. With those results, the authors come to conclusion that Vietnam should execute macroeconomic policies, especially the fiscal policy and macroprudential policy, with caution and consideration of their interaction in order to take the best advantage of their coordination towards financial stability.

House purchasing has become an important asset allocation choice for most families in China. House price fluctuation is also one of the important factors that leads to systematic risks in the financial market, which might cause economic crises and then reduce consumption. Since China formally established the dual-pillar management framework of macroprudential policy in 2019, it has played a crucial role in maintaining the stability of house prices. This article employs the mediating effect model to comb the internal mechanism of the interaction between macroprudential policies, housing prices, and household consumption and test by the panel data of 30 provinces and cities in China from 2004 to 2019. Experience implies that macroprudential policy can not only stabilize consumption demand directly and effectively, but also affect consumption indirectly through the cross of the real estate market and the credit market. Further research has also found that macroprudential policies may fail between regions with higher GDP and high-income groups. This finding will contribute to research on the relationship between macroprudential policies and real economics. In addition, it would be helpful in making policies to increase consumption.

This paper examines the interactions of macroprudential policy and monetary policy in a New Keynesian DSGE model with financial frictions. Macroprudential policy can stabilize credit cycles. However, a macroprudential instrument that aims to stabilize a specific segment of the credit market can cause regulatory arbitrage, that is, a reallocation of credit to a less regulated part of the market. Within this model, welfare-maximizing monetary policy aims to stabilize only inflation and macroprudential policy only stabilizes credit. Two aspects of the model account for this dichotomy. First, credit stabilization is welfare improving because lower volatility is compensated by higher mean equilibrium credit and capital. Second, monetary policy is sub-optimal for credit stabilization. The reason is that it operates on the decisions of borrowers and savers, while macroprudential policy operates only on the decisions of borrowers.

This paper uses the initial phase of the COVID-19 pandemic to examine how macroprudential frameworks developed over the past decade performed during a period of heightened financial and economic stress. It discusses a new measure of the macroprudential stance that better captures the intensity of different policies across countries and time. Then it shows that macroprudential policy has been used countercyclically-with stances tightened during the 2010's and eased in response to COVID-19 by more than previous risk-off periods. Countries that tightened macroprudential policy more aggressively before COVID, as well as those that eased more during the pandemic, experienced less financial and economic stress. Countries' ability to use macroprudential policy, however, was significantly constrained by the extent of existing "policy space", i.e., by how aggressively policy was tightened before COVID-19. The use of macroprudential tools was not significantly affected by the space available to use other policy tools (such as fiscal policy, monetary policy, FX intervention, and capital flow management measures), and the use of other tools was not significantly affected by the space available to use macroprudential policy. This suggests that although macroprudential tools are being used countercyclically and should therefore help stabilize economies and financial markets, there appears to be an opportunity to better integrate the use of macroprudential tools with other policies in the future.

Fluctuations in commodity prices have significant effects on output and financial stability in emerging countries. We examine the effect of macroprudential policies on commodity-exporting countries with financial frictions, which consist of two sectors—the commodity-producing sector and final goods sector. When a commodity-exporting country suffers from volatile fluctuations in commodity prices, we find that macroprudential policy in each sector is welfare-enhancing and that it is optimal to impose macroprudential policies in both sectors. We also show that macroprudential policies are more effective in improving welfare for commodity-exporting economies suffering from a stronger link between commodity prices and interest rate spreads, higher sensitivity of interest spreads to debt, and larger commodity price shocks.

This paper develops a calibrated dynamic stochastic general equilibrium model incorporating a banking sector and some unique features of China’s macroeconomic policies to simulate China’s monetary and macroprudential policies. The quantitative results show, first, that the interest rate is a better instrument for China’s monetary policy than the required reserve ratio (RRR) when the central bank is solely concerned about price stability; second, that the loan-to-value ratio is a very useful macroprudential tool for China’s financial stability, and the RRR could be used as an instrument for both objectives; third, monetary and macroprudential policies could be either complements or substitutes in China, depending on the choices of instruments for the two policies. Our policy experiments recommend three combination choices of instruments for China’s monetary and macroprudential policies. (JEL codes: E52, E61and G18)

Macroprudential policy and the probability of a banking crisis

The article provides a comprehensive analysis of the problem of international macroprudential regulation from the standpoint of benefits and threats produced for national economies in the process of its implementation. It has been established that the macroeconomic situation in each individual country is increasingly being influenced by forces that go beyond both traditional cycle theories and the conventional understanding of non-economic factors. As a result, long-term macroeconomic stability, the key to which is the stability of the national financial and, above all, the banking system, to external shocks, is called into question, and the main way to ensure it is to conduct a risk-weighted macroprudential policy. Capital inflows driven by changes in financial regulations in the country of origin of capital could lead to excessive credit growth and asset price pressures in capital recipient countries, which could be partly mitigated by regulatory and macroeconomic policies in those countries. Conversely, effective domestic macroprudential policies that help contain systemic risks in one country can contribute to financial stability in other countries by generating positive externalities. Reducing the likelihood of a financial crisis in one country through timely macroprudential policies can reduce the scale of negative trade and financial spillovers or spillovers at the regional or international level. Based on the assumption that, when policymaking is inconsistent, each country's regulator is free to choose policy instruments to minimize its own political losses or maximize public welfare, assuming that regulators in other countries can make similar arbitrary choices of macroprudential instruments as a given, it has been found that such policy, generally does not take full account of cross-border spillovers, that is, the real and financial externalities caused by domestic shocks, or the consequences of national policy responses to those shocks. The article determines that, theoretically, international coordination of macroprudential policies can achieve a reduction in political losses or contribute to an increase in public welfare. Both domestic macroprudential policies and prudential capital controls produce spillover effects internationally, which can lead to “capital wars” based on races to lower interest rates. Keywords: macroprudential policy, international economic policy, international capital flows, financial integration, international policy coordination, global instability, regulatory wars.

In an overlapping generations model without financial frictions, Gali (Am Econ Rev 104(3):721–752, 2014) observed that a ‘leaning against the wind’ monetary policy is likely to aggravate the fluctuations in the bubble. He found that optimal monetary policy in such an economy must strike a balance between stabilization of the bubble and stabilization of aggregate demand. This paper extends Gali (Am Econ Rev 104(3):721–752, 2014)’s model by introducing various financial frictions in the bubbly economy with a Samuelson 2-period overlapping agents and examine how ‘leaning against the wind’ macro-prudential policies like capital adequacy affect the size and volatility of bubble, inflation and aggregate demand. While the results of the model with financial frictions vindicate Gali (Am Econ Rev 104(3):721–752, 2014) that a leaning against the wind monetary policy generates a larger volatility in the bubble than a policy of benign neglect, the paper finds that minimisation of bubble volatility requires an active macro-prudential policy. It is also observed that stronger interest rate response of monetary policy to the bubble necessitates a stronger macroprudential response possibly to absorb the excess volatility generated by the monetary policy. However, the paper also finds that tightening macroprudential policy parameter beyond a threshold value may encourage banks to take more risks and increase credit supply, aggravating the bubble in the process. With respect to macroprudential policy, there is no conflict between stabilization of current aggregate demand and stabilization of future aggregate demand and both call for a strong macroprudential response, at least until the macroprudential parameter attains the threshold value, although the conflict between the two objectives persists with respect to monetary policy as in Gali (Am Econ Rev 104(3):721–752, 2014). Empirical verification of the provisioning cost channel through structural vector autoregression confirm that a positive provisions shock can contract asset bubbles by restricting credit, output and a delayed marginal response of interest rate spreads.

The purpose of the article is to explain the impact of macro-prudential policy on the state of macroeconomic security on the example of the Polish economy. Macroprudential policy is important in the system of ensuring the economic security of the country and is a relatively new direction of monetary authorities. Quantitative macro-prudential policy can be characterized by the values of key macroprudential indicators of the financial sphere – an extensive list of capital ratios of financial institutions, values of macroprudential „buffers” and others. The national economic security of the country is related to the socioeconomic stability of society and the positive dynamics of the economy. Therefore, we used macroeconomic equilibrium indicator to quantify the level of economic security. The article is devoted to the search, assessment and analysis of the relationship between these two phenomena - macroprudential policy and the security of the national economy.

After the global financial crisis of 2007, macroprudential policy instruments have gained in recognition as a crucial tool for enhancing financial stability. Monetary policy, fiscal policy, and microprudential policy operate with a different toolkit and focus on achieving goals other than the stability of the financial system as a whole. In ligh of this, a fourth policy – namely macroprudential policy – is required to mitigate and prevent shocks that could destabilize the financial system as a whole and compromise financial stability. The aim of this paper is to contrast macroprudential policy with other economic policies and explain why other economic policies are unable to attain financial stability, which in turn justifies the need for a separate macroprudential policy, the ultimate goal whereof is precisely financial stability of the financial system as a whole. Our research results based on the descriptive research method indicate that, in order to prevent future financial crises, it is indispensable to combine both the microprudential and the macroprudential approach to financial stability. This is because the causes of the crises are often such that they cannot be prevented or mitigated by relying only on microprudential or only on macroprudential policy instruments.