Credit and Monetary Policy: An Australian SVAR

Credit is an important macroeconomic variable that helps to drive economic activity and is also dependent on economic activity. This paper estimates a small structural vector autoregression (SVAR) model for Australia to examine the intertwined relationships of credit with other key macroeconomic variables. At short horizons, shocks to the interest rate, the exchange rate, and past shocks to credit are found to be important for credit growth. Over longer horizons, shocks to output, inflation and commodity prices play a greater role. The response of credit to changes in monetary policy is found to be relatively slow, similar to that of inflation and slower than that of output. The model suggests that an unexpected 25 basis point increase in the interest rate results in the level of credit being almost half of a percentage point lower than it otherwise would have been after a bit over one year, and almost 1 per cent lower after four years. Estimates from the model indicate that in responding to the macroeconomic consequences of a credit shock, monetary policy appears to stabilise the economy effectively. As a result of monetary policy’s response, output and the exchange rate are barely affected by a credit shock. The credit shock results in higher inflation for about two years, but it would be higher still over this period in the absence of a monetary policy response. Changes in credit are also moderated as a result of monetary policy’s response.