IMF Working Papers

Macroprudential Policies in Response to External Financial Shocks

By Irineu E de Carvalho Filho, DingXuan Ng

January 20, 2023

Download PDF

Preview Citation

Format: Chicago

Irineu E de Carvalho Filho, and DingXuan Ng. Macroprudential Policies in Response to External Financial Shocks, (USA: International Monetary Fund, 2023) accessed October 10, 2024

Disclaimer: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

Summary

This paper examines how countries use Macroprudential Policies (MaPs) to respond to external shocks such as US monetary policy surprises or fluctuations in capital flows. Constructing a model of a small open economy with financial frictions and a MaP authority that adjusts loan to value (LTV) ratio limits on borrowers and capital adequacy ratio (CAR) limits on banks, we show that using MaPs where stochastic external financial shocks are present entails a trade-off between macro-financial volatility and GDP growth. The terms of the trade-off are a function of a few country characteristics that amplify financial channels of external monetary shocks. Estimating MaP reaction functions for a panel of 41 countries in the period 2000–2017, we find that countercyclical macroprudential policy in response to surprise US monetary tightening is more likely for countries with net short currency mismatches (that is, foreign currency denominated liabilities larger than foreign currency denominated assets), consistent with the model’s predictions. The paper also finds that domestic credit and interest rates are more insulated from US monetary tightening for countries that employ MaPs countercyclically.

Keywords: External shocks, Macroprudential policy

Publication Details

  • Pages:

    46

  • Volume:

    ---

  • DOI:

    ---

  • Issue:

    ---

  • Series:

    Working Paper No. 2023/012

  • Stock No:

    WPIEA2023012

  • ISBN:

    9798400230035

  • ISSN:

    1018-5941