1

XIV Annual Seminar on Inflation TargetingBanco Central do Brasil

Macroeconomic and Financial Stability

Objectives and InstrumentsDavid Vegara

WHD, IMF

Rio de Janeiro, May 2012

Structure of Presentation

MaP: Objectives and Instruments

Topics/Issues: Topics/Issues:I. Analytical Framework

II. Operational Set of Instruments/Effectiveness• Tools• Choice of instruments• Use in EM• Effectiveness

III. MaP and MP: complements, substitutes?

2

2

MaP: Objectives and Instruments MaP policy seeks to limit systemic, or

system wide, financial risk. Systemic risk: a risk of disruptions to Systemic risk: a risk of disruptions to

financial services that is caused by an impairment of all or parts of the financial system, and can have serious negative consequences for the real economy.

MaP policy seeks to address two specific dimensions of systemic risk: (i) the time dimensions of systemic risk: (i) the time dimension (procyclicality); and (ii) the cross-sectional dimension (interconnectness).

Central element: system wide perspective

3

MaP: Objectives and Instruments

Objective (prime objective): Maintaining the stability of the financial system as a whole, y y ,by limiting the build-up of systemic risk.

Instruments: Core instruments are prudential type instruments, calibrated and used to deal specifically with systemic risk and applied with a broader financial risk, and applied with a broader financial system perspective.

4

3

MaP: Objectives and Instruments Complement to MiP

(useful conceptually/difficult in practice).

Financial stability is a common responsibility (degree of coordination across policies).

No substitute for sound policies.

Involves managing tail risks Involves managing tail risks.

Institutional setup.

5

Issues/TopicsI. Analytical Framework

II. Operational Set of pInstruments/Effectiveness

• Tools

• Choice of Instruments

• Use in EM

• Effectiveness

III. MaP and MP: Complements, Substitutes?

6

4

I. Analytical Framework Macroprudential policy requires a capacity

to identify systemic risks early enough so timely action can be takentimely action can be taken.

Several gaps remain.I. Can systemic risk be identified and measured?

II. How reliable is the current analytical toolkit to monitor systemic risk?

III How to operationalize an assessment of systemic III. How to operationalize an assessment of systemic risk?

When is “too fast”?

7

II. Operational Set of Instruments/Effectiveness

Prudential type instruments… … though little consensus has emerged as

to the type of instruments that should form part of a MaP toolkit .

Need arises to provide clarity as to which instruments can be considered MaP, and which instruments cannot.

8

5

II. Operational Set of Instruments/Effectiveness

Tools Risk Dimensions

Time-Dimension Cross-Sectoral Dimension

Category 1. Instruments developed specifically to mitigate systemic risk

• Countercyclical capital buffers • Systemic capital surcharges• Through-the-cycle valuation of margins or

haircuts for repos• Levy on non-core liabilities• Countercyclical change in risk weights for

exposure to certain sectors• Time-varying systemic liquidity surcharges

• Systemic liquidity surcharges

• Levy on non-core liabilities

• Higher capital charges for trades not cleared through CCPs

Category 2. Recalibrated instruments

• Time-varying LTV, Debt-To-Income (DTI) and Loan-To-Income (LTI) caps

• Time-varying limits in currency mismatch or exposure (e.g. real estate)

• Time-varying limits on loan-to-deposit ratio

• Powers to break up financial firms on systemic risk concerns

• Capital charge on derivative payables

• Deposit insurance risk premiums • Time-varying limits on loan-to-deposit ratio• Time-varying caps and limits on credit or

credit growth• Dynamic provisioning• Stressed VaR to build additional capital

buffer against market risk during a boom• Rescaling risk-weights by incorporating

recessionary conditions in the probability of default assumptions (PDs)

p psensitive to systemic risk

• Restrictions on permissible activities (e.g. ban on proprietary trading for systemically important banks)

Source: IMF 2011 “Macroprudential Policy: An Organizing Framework.”

9

What Affects the Choice of Instruments?

Economic Development Stage

Size of Financial Sector

Monetary/Exchange Size of Capital Monetary/Exchange Rate Regime

Size of Capital Inflows

10

6

MaPs Tend To Be Used More Heavily in EM’sScore

1 2 3 4 5 6 ap

s on

loan-

to-va

lue

tios

aps o

n deb

t/loan

-to-

com

e rat

ios

aps

on fo

reign

rre

ncy

lendin

g

eiling

on

credit

or

edit

grow

th

mits

on n

et op

en

sition

s/ cu

rrenc

y sm

atch

mits

on m

aturit

y ism

atch

eser

ve re

quire

ments

ount

ercy

clica

l cap

ital

quire

men

t me

-var

ying/

exp

ecte

dss

/ dyn

amic

ovisi

oning

estri

ction

s on p

rofit

str

ibutio

n

Why?:• Overheating• K inflows/ 6 Ca rat Ca inc Ca cu Ce cre Lim po mi Lim mi Re Co req Tim los pro Re dis

Brazil2/ Chile Colombia Mexico China India Russia South Africa Poland Turkey Korea US UK

K inflows/• Volatility• Experience• Monetary transm.

mechanism.• IT more recent• …

UK Japan France Germany Italy Spain

Source: IMF (2011)1/ No color represents no use of instruments, and ‘1’ denotes the use of a single instrument. For each of the following attributes, i.e., multiple, targeted, time-varying, discretionary and used in coordination with other policies, the value of ‘1’ is added.2/ Unlike other countries, caps on LTV ratios is applied to vehicle loans in Brazil, not mortgage loans.

11

Dampening Procyclicality

of credit growth?

Effectiveness of the Instruments

of leverage?

Two Approaches

1 Simple Correlation

2 Panel Regression

Lim et al., 2011, “Macroprudential Policy: What Instruments and How to Use Them? Lessons from Country Experiences,” IMF Working Paper, No. WP/11/238.

12

7

1.0%LTV(y/y change)

0.5%

1.0%DTI(y/y change)

Change in Credit Growth After the Introduction of Instruments(Average across countries)

a) Simple Approach

-1.5%

-1.0%

-0.5%

0.0%

0.5%

t-2 t-1 t t+1 t+2 t+3 t+4

Quarterly-3.0%

-2.5%

-2.0%

-1.5%

-1.0%

-0.5%

0.0%t-2 t-1 t t+1 t+2 t+3 t+4

Quarterly

6.0%

7.0%Reserve Requirements(y/y change)

1.0%

Dynamic Provisioning(y/y change)

-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

t-2 t-1 t t+1 t+2 t+3 t+4

Quarterly -2.0%

-1.5%

-1.0%

-0.5%

0.0%

0.5%

t-2 t-1 t t+1 t+2 t+3 t+4

Quarterly

13

Credit Growth vs. GDP Growth

3%

4%

5%

With and Without Caps on Loan-To-Value Ratios

No Caps on LTV (blue)

Caps on LTV (red) 3%

4%

5%

With and Without Caps on Debt-to-Income Ratios

No Caps on DTI (blue)

Caps on DTI (red)

a) Simple Approach (contd.)

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

-10% -5% 0% 5% 10%

Cre

dit G

row

th (P

erce

nt Q

uarte

rly)

GDP Growth (Percent Quarterly)

Caps on LTV (red)

4%

5%

With and Without Reserve Requirement

No Reserve Requirements (blue)

Reserve Requirements

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

-10% -5% 0% 5% 10%

Cre

dit G

row

th (P

erce

nt Q

uarte

rly)

GDP Growth (Percent Quarterly)

4%

5%

With and Without Dynamic Provisioning

No Dynamic Provisioning (blue)

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

-10% -5% 0% 5% 10%

Cre

dit G

row

th (P

erce

nt Q

uarte

rly)

GDP Growth (Percent Quarterly)

Reserve Requirements (red)

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

-10% -5% 0% 5% 10%

Cre

dit G

row

th (P

erce

nt Q

uarte

rly)

GDP Growth (Percent Quarterly)

Dynamic Provisioning (red)

14

8

b) Panel RegressionStatistically Significant (✔) or Not (✘)b) Panel RegressionStatistically Significant (✔) or Not (✘)

Reductions in: Procyclicality of

Credit Leverage

Caps on LTV ✔ ✘Caps on DTI ✔ ✔Limits on Credit Growth ✔ ✔Reserve Requirements ✔ ✔Time-varying/Dynamic Provisioning ✔ ✔

Countercyclical/Time-varying Capital Requirements

✘ ✔

15

Brazil: Use of MaPs (and CFMs) RR have been moved counter-cyclically to

manage liquidity, also affecting credit.

Capital requirements on certain long term consumer loans to households were increased in December 2010 to tackle potential adverse effects from a rapid consumer loan growth.

C it l fl t h Capital flows management measures such as the IOF have been deployed, as part of a tool-kit including macro-policy adjustment, to manage flows.

16

9

The IOF has slowed portfolio bond flows while RR’s have had also some impact on moderating credit…

Impact of IOF on Bond Flows

Impact of RRson credit

-0.25-0.20-0.15-0.10-0.050.000.050.10

Impulse Response of Real Private Credit to a 1 ppt Rise in Required Reserves (percent)

-0.40-0.35-0.30

0 4 8 12 16 20Quarters after shock

17

… and targeted measures have been used to slow lending in specific sectors

Lending Growth Slowed Duration on Autos Fell SomeEffects of Consumer Loan Tightening (Dec. 2010) Automobile Loans: Average Maturity

40.0

60.0

80.0

100.0

120.0Before Dec. 2010

After Dec. 2010

Effects of Consumer Loan Tightening (Dec. 2010)(In percent, 6 months average of monthly growth rate)

16

17

18

19

20

21

22

Tighten (Dec. 2010)

Loosen (Nov. 2011)

Automobile Loans: Average Maturity(In months)

-20.0

0.0

20.0

Loans Granted

Overdraft Accounts

Personal Credit

Real Estate

Good Purchase

Vehicles

Sources: Banco Central do Brasil, IMF staff calculation.

12

13

14

15

Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11

Sources: Banco Central do Brasil, IMF staff calculation.

18

10

III. MaP and MP: Complements, Substitutes?

(emerging) DEBATE?:

Both affect demand.

MaPs: implementation has impact upon, andtherefore alters, the transmission mechanismof monetary policy.

Is there a case to use them as substitutes?

MP: Leaning against the wind/MaPs: leaning against inflation?

19

There are some complementarities between MP and MaPs in terms of credit

MaPs hard to model—use RR’s as proxy. Policy Shock: Impulse Reponse(real percent change relative to baseline after 4 quarters)

Simple analysis for Brazil.

Suggests that shocks to policy rate and RR’s both have effects on credit.

RR’s have relatively -0.8

-0.7

-0.6

-0.5

-0.4

-0.3

-0.2

-0.1

0.0

Earmarked credit Non-earmarked credit

Policy rateReserve requirement

RR s have relatively more important impact on “earmarked credit.”

* Effects of an increase of 1 percentage point in the Selicpolicy interest rate or required reserves.

20

11

But monetary policy appears to have more powerful effects on demand

Monetary policy y p ytransmission is beyond credit channel.

Pass-through to interest rates more complete and expectations channel looks more powerful for MP.-0.5

-0.4

-0.3

-0.2

-0.1

0.0

Policy rate

Reserve requirement

Policy Shock: Impulse Reponse of Output(percent change relative to baseline after 4 quarters)

Monetary policy also broad based price signal—less prone to leakage.

-0.6Output

* Effects of an increase of 1 percentage point in the Selicpolicy interest rate or required reserves.

21

Central Bank of Brazil has used policies in the same “direction,” while focusing Maps on stability

RR’s have been adjusted to address liquidity risks

The policy rate has responded to the cycle

Eff i R R i Bra il Polic Interest Rates Q1 2006 to Q4 2011

5

10

15

20

25

30

35

40

Weighted Average Statutory RR

Effective Reserve Requirements(As a percent of total deposits)

10.0

12.0

14.0

16.0

18.0

Brazil: Policy Interest Rates, Q1-2006 to Q4-2011(percent) 1/

TaylorRule

0

5 Ratio

Source: Banco Central do Brasil

6.0

8.0

2006 2007 2008 2009 2010 2011Source: Haver and Staf f estimates.1/ Taylor Rule using market expectations of inf lation 12 months ahead.

Actual

22

12

Key to preserve the central idea of one-target one instrument

IT and ST interest rate. Optimal policy rule. Identifiable. Understood—hence can gauge impact. Important for transparency and clarity of

t ti f tiexpectations formation. Key part of credibility of IT regime.

23

To conclude…

dddddd

24

13

To conclude…

25

References Agénor, Pierre-Richard and Luiz A. Pereira da Silva, 2011, “Macroprudential Regulation and the

Monetary Transmission Mechanism,” Central Bank of Brazil Working Paper No. 254.

Angelini, Paolo, Stefano Neri, and Fabio Panetta, 2011, “Monetary and Macroprudential Policies,” Bank of Italy Working Paper, No. 801.

B Ch l M tthi P ti Ad i P l d Ti T l 2010 “M t P li ft th Bean, Charles, Matthias Paustian, Adrian Penalver, and Tim Taylor, 2010, “Monetary Policy after the Fall,” Paper presented at the Federal Reserve Bank of Kansas City Annual Conference, Jackson Hole.

Beau, Denis et al., 2011, “Macro-prudential policy and the conduct of monetary policy”, Banque de France, Ocassional papers, No 8.

IMF, 2011, “Macroprudential Policy: An Organizing Framework”.

Lambertini, Luisa, Caterina Mendicino, and Maria Teresa Punzi, 2011, “Leaning Against Boom-Bust Cycles in Credit and Housing Prices,” Bank of Portugal Working Paper, No.8.

Lim, Cheng Hoon ; Columba, Francesco ; Costa, Alejo ; Kongsamut, Piyabha ; Otani, Akira ; Saiyid, Mustafa ; Wezel, Torsten ; Wu, Xiaoyong, 2011, “Macroprudential Policy: What Instruments and How to Use Them? Lessons from Country Experiences,” IMF Working Paper, No. WP/11/238

Terrier, Gilbert ; Valdés, Rodrigo O. ; Tovar Mora, Camilo E ; Chan Lau, Jorge A. ; Fernandez Valdovinos, Carlos ; Garcia-Escribano, Mercedes ; Medeiros, Carlos I. ; Tang, Man-Keung ; Vera-Martin, Mercedes ; Walker, W. Christopher, 2011, “Policy Instruments To Lean Against The Wind In Latin America,” IMF Working Paper, No. WP/11/159.

26

14

Muito obrigado!Thank you!

..