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Macroprudential Policy Essay

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Macroprudential policy aims to manage financial stability through a much more targeted approach than monetary policy. Using monetary policy to fix a problem in the economy (e.g. asset prices are too high or too low) has many risks involved with it, for example causing high inflation or on the other hand causing deflation. Macroprudential policy takes a different approach and tries to correct imbalances in the economy more on a case-by-case basis instead of “shocking” the whole economy with monetary changes. So instead of trying to aid a housing bubble by raising interest rates and risking a rise in unemployment, a macroprudentialist will look to impose higher loan-to-value ratios on mortgage lendors, and will try to reign in just the housing part of the …show more content…

Policymakers had to react to the crisis quickly which meant that often there was not time to do the adequate research on some of these tools. Also research requires data which sometimes cannot be obtained without testing how these policies work in real life. These are the reasons that policy came before research in this field, but comprehensive research efforts over the last few years are trying to fill this gap (Galati, 2015). 1 TYPES OF MACROPRUDENTIAL TOOLS Lim, Columba, et al. (2011) divided macroprudential tools into three main categories – credit-related tools, liquidity-related tools and capital-related tools. 1.1 CREDIT-RELATED TOOLS These tools are mainly used to target individual problematic sectors within an economy. For example, if real estate prices are booming due to cheap credit, a loan-to-value ratio limit can be imposed, which restricts the amount that can be borrowed relative to the underlying collateral. A similar measure is the loan-to-income ratio which shows the relative size of the loan in comparison to the borrower’s income. (Grace, Hallissey & Woods,

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