The Interaction of Monetary and Macroprudential Policies

Transcription

1 The Interaction of Monetary and Macroprudential Policies By Stijn Claessens (IMF) Based on an IMF Board Paper Disclaimer! The views presented here are those of the authors and do NOT necessarily reflect the views of the IMF or IMF policy Conference on Macroprudential Policies CEMLA, Mexico City June

2 Old Framework of Macroeconomic and Prudential Policies Macro Prudential Macroeconomic Policies (monetary/fiscal/ external) Microprudential Policy Price Stability Economic Activity Idiosyncratic Risk

3 Paradigm delivered broadly stable output and low inflation 8 6 Output Gap (In percent of Potential Output) W.E.O. September, Headline Inflation (In percent) Q1 2004Q1 2007Q1 2010Q1 Ireland Spain United States Ireland Spain United States

4 But dangerous imbalances built up despite Residential Real Estate Prices, 2000Q1= Construction/Non-construction components, 2000= Q1 2002Q3 2005Q1 2007Q3 2010Q Ireland Spain United States Ireland Spain United States The crisis made evident that to ensure macroeconomic stability, policy needs financial stability as a goal But a new goal requires new tools: macroprudential policies

5 New Framework of Macroeconomic and Micro- and Macro-Prudential Policies Macro- Prudential Macroeconomic Policies (monetary/fiscal/ external) Macroprudential Policy Microprudential Policy Price Stability Economic Activity Financial Stability Systemic Risk Idiosyncratic Risk

6 Questions on Interactions What is best conduct of both monetary and macroprudential policies in the presence of interactions? Caveat: knowledge to date on macroprudential policies is not at the same level as monetary policy Start with a benchmark of how both policies would be conducted optimally Departure from ideal world focuses on three questions: 1. If macro-prudential policies work imperfectly, what are the implications for monetary policy? 2. If monetary policy is constrained, what is the role for macroprudential policies? 3. If there are institutional and political economy constraints, how can both policies be adjusted?

7 Conceptual Framework With only nominal rigidities as a distortion, stabilizing inflation = maximizing welfare (Woodford, 2003, Blanchard and Gali, 2007: divine coincidence ) With financial distortions, financial stability becomes an additional intermediate policy goal (Curdia and Woodford, 2009, Carlstrom and Fuerst, 2010) But financial stability is fuzzy concept because financial distortions can change over time and vary across countries Preserving financial stability by macro-prudential policies requires mitigating the aggregate consequences of financial distortions (i.e., excessive leverage, liquidity risk, currency mismatches, etc.)

8 Monetary policy is not best suited to maintaining financial stability Mitigating the effects of financial distortions or pricking an asset price bubble can require large changes in the policy rate (Bean and others, 2010) It lacks the sectoral features that often accompany financial distortions Price stability should thus remain its primary objective

9 MPP are relatively less well suited to managing aggregate demand The use of macroprudential policies (MPP) for managing aggregate demand may in fact create additional distortions (and political economy risks) When monetary and fiscal policies are available and effective for macroeconomic management, it is desirable to keep MPP focused on financial stability

10 But each policy has side effects on the objectives of the other Macroeconomic Policies (monetary/fiscal/ external) Macroprudential Policy Price Stability Economic Activity Financial Stability Systemic Risk

11 Side effects Policy interest rates can affect financial stability: by affecting ex-ante risk-taking incentives of individual agents or institutions, etc.; (Caballero and Krishnamurthy, 2003, Lorenzoni, 2008, Jimenez and others, 2008, etc.). Channel is affected by capitalization of banks, etc. by affecting ex-post the tightness of borrowing constraints and exacerbating asset price and exchange rate externalities, and leverage cycles (Adrian and Shin, 2008, Lorenzoni, 2008, etc.) MPP affect output by constraining borrowing and hence demand/expenditures in sector of the economy

12 Monetary Policy and Risk Taking: Consensus Seems to be Moving.. Many argue monetary policy caused crisis Borio et al. (2008) Much of problems attributed to low interest rates Overly loose monetary policy (Taylor, 2009) Abundant liquidity search for yield (Rajan, 2005) Increase in leverage (Adrian and Shin, 2008, 2009 ) Debate on whether low rates and macro bailout are seeding the ground for new crisis Rajan (2010); Diamond and Rajan (2010), Farhi and Tirole (2009) Bernanke (2013); Stein (2013); Caruana (2013), etc.

13 Need to Acknowledge the Multiple Relations between MPO and Financial Stability Monetary policy Bank capitalization Macro- Prudential Policy Real activity Risk taking

14 Monetary Policy Impact on Risk Taking: Depends on Banking System s Capital Impact of a cut in policy rate on bank risk taking depends on capitalization (if fixed): Portfolio reallocation prevails if bank is well-capitalized (more risk) Risk shifting prevails if bank is poorly capitalized (less risks) PORTFOLIO REALLOCATION Search for yield, Incentive for leverage, Push to asset prices RISK SHIFTING Limited liability, Bank franchise value, Greenspan put

15 Capital-to-asset ratio (detrended) (in %) Risk of loans (detrended) Stylized Facts Suggest Indeed More Risk Taking When Interest Rate is Lower (but then Bank Capital is Lower Too) Real federal funds rate (detrended) (in %) Real Federal Funds Rate (detrended) (in %) Source: De Nicolo et al (2010)

16 No major complications to the conduct of both policies The conduct of both policies does not change markedly compared to a world without side effects, when policies operate perfectly However, in the real world there are a number of complications as case studies (e.g., Turkey, Eastern Europe, U.S., Brazil, Korea) and other work show In addition, knowledge on MPP is still limited (CGFS (2012), ECB (2012), IMF (2013) summaries of MPP)

17 1. If MPP work imperfectly, what are the implications for monetary policy? Reasons why MPP may not work perfectly: Financial stability is not well-defined Limited knowledge on the quantitative impact of MPP, on how they interact with monetary policy and each other Institutional constraints may impede the optimal deployment of macroprudential instruments Imperfect MPP may give rise to costs (Caballero and Krishnamurthy, 2004) Monetary policy may then have a residual role in ensuring financial stability (Curdia and Woodford, 2009, Carlstrom and Fuerst, 2010; Stein, 2013; others)

18 2. If monetary policy is constrained, what is the role for MPP? Where monetary policy is constrained, i.e., a currency union or small open economies with less independent monetary policy, the demands on MPP are greater The resulting suboptimal monetary stance can make excessive risk-taking incentives stronger (e.g., euroarea, Jaumotte and others, forthcoming) But where monetary policy lacks credibility or effectiveness, i.e., countries where monetary policy is a work in progress, MPP should not be used as a substitute (Dell Ariccia and others, 2012)

19 3. Dealing with political economy and institutional constraints Just as political economy issues justify central bank independence, the same applies for MPP (Ueda and Valencia, 2012) When MPP work imperfectly, coordination issues also arise (as with M/F interactions, Dixit & Lambertini, 2003) When both functions are housed within the central bank, coordination is improved but safeguards are needed to counter the risks of dual objectives These safeguards include separate mandates, decisionmaking, accountability, and communication structures

20 Conclusions When policies operate perfectly, interactions do not pose significant challenges to the conduct of both policies Constraints on one policy imply the other one has to do more Housing MPP in central bank (MP) can improve coordination, but then needs safeguards against the risks of dual objectives More work is needed to have more clear-cut policy advice: On effectiveness and interactions among macroprudential tools and intermediate targets On coordination issues with other policies (i.e., microprudential, fiscal, crisis management) On the costs of MPP in terms of potential new distortions they may introduce in the economy