2023

IMFS-IMF Webinar
"Macroprudential Policy Tools: How Well Do They Work?

Video (Youtube)

In many advanced economies, macroprudential policy tools were only adopted after the Global Financial Crisis (GFC). After years of tightening, the COVID-19 shock was a test of the countries‘ readiness to relax tools in stress periods. Currently, rising interest rates pose a new resilience test for the financial system. During a joint IMF IMFS webinar on June 16, Erlend Nier presented the findings of a recent paper by IMF authors, which put the effectiveness of macroprudential tools to the test Nier, Deputy Division Chief with the IMF’s Monetary and Capital Markets Department, made a positive assessment. „Macroprudential policy succeeds in reducing the build-up of vulnerabilities.“

Based on a meta-study of research, a survey of recent studies and the IMF macroprudential database, the authors analyzed whether macroprudential tools counter a procyclical build-up of vulnerabilities, whether they increase financial system resiliance to adverse shocks or how their effects vary with calibration over time

In the wake of the GFC, new capital and liqudity tools such as the Countercyclical Capital Buffer (CCyB), the liqudity coverage ratio (LCR) and the net stable funding ratio (NSFR) were introduced as part of the banking reform. Borrower-based tools such as loan-to-value (LTV) and the debt service-to-income (DSTI) ratio are also more widely used since then.

According to the findings, macroprudential policy tightening has strong effects on credit and asset prices. Nier pointed to studies using micro-data which generally find large and highly significant effects, especially for borrower-based tools. Furthermore, macroprudential policy also increase resilience. „New evidence shows that capital buffers can help maintain credit through stress periods,“ Nier said. On the other hand, borrower-based tools, e.g. DSTI, can increase borrower resilience.

These resilience effects hold up through time but „a general finding is that the marginal resilience benefit is very large initially and that the marginal benefit diminishes when the tools is already calibrated tightly,“ Nier explained. For instance, capital buffers can support lending when they are released so that banks feel more confident to lend even in the face of credit losses. For borrower-based tools, the effects even persist longer through time. „Overall, we find strong benefits from deploying macroprudential policy both in terms of reducing exposure to risk and in terms of creating additional resilience.“

However, according to the IMF researchers, macroprudential policy remains underused. „Few countries are building up macroprudential capital buffers and more countries both advanced and emerging countries should consider building them up.“ Similarly, borrower-based tools e.g. the loan to income constraints are not used everywhere. „More countries should consider these tools,“ Nier suggested.

Elena Carletti of Bocconi University is also convinced that macroprudential regulation is highly important and the tools should be used. However, „one of the main problems in macroprudential policy is the evaluation of its effectiveness“, she pointed out. Evaluating the effectiveness is complex due to endogeneity and the interaction with other tools. Therefore, in her view, macroprudential policy should be reconsidered in its entirety.

With regard to the recent turmoil in the US banking sector and the crisis of Credit Suisse, Carletti also recommended to focus more on aspects of liquidity. „I am convinced that this crisis pointed attention to liquidity that has been somehow silent for a long time“.

Regarding the strong effects on credit and asset prices when tightening macroprudential tools, Carletti who is also a member of the expert panel on banking supervision of the European Parliament was skeptical whether it was possible to find out when the reduction was sufficient and not excessive. Moreoever, she also stressed the differences across countries and the interaction with other policies.

Francesco Mazzaferro of the European Systemic Risk Board (ESRB) pointed the attention to the constraints in practice. „In reality in Europe there is the one size fits all problem“. Since the monetary policy stance by definition cannot fit with all the regions in the euro area, „the first line of defense is to activate macroprudential policy.“

„The signals we get from the financial sector are very ambiguous, creating a number of question marks to which macroprudential policymakers have to answer.“ According to Mazzaferro, on way to solve this is by developing a good macroprudential stance and to make sure that the macroprudential stance is in line with the risks.

Although there are leakage effects - the propensity of the provision of credit to shift out from underneath the tools - Mazzaferro is convinced of the effectiveness of macroprudential tools. „We want to encourage policymakers to use them.“

According to the IMF study, in macroprudential policy much remains to be done in the future „The calibration of the tools would require further data,“ Nier added. All panelists agreed on a further aspect mdentioned by Nier. „Finally, the expansion to non-banks would help.“