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Capital Regulation, Monetary Policy, and Financial Stability

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Listed:
  • R. P. Agenor

    (University of Manchester and Centre for Growth and Business Cycle Research)

  • K. Alper

    (Central Bank of Turkey)

  • L. Pereira da Silva

    (Central Bank of Brazil)

Abstract

This paper examines the roles of bank capital regulation and monetary policy in mitigating procyclicality and promoting macroeconomic and financial stability. The analysis is based on a dynamic stochastic model with imperfect credit markets. Macroeconomic stability is defined in terms of a weighted average of inflation and output-gap volatility, whereas financial stability is defined in terms of three alternative indicators (real house prices, the credit-to-GDP ratio, and the loan spread), both individually and in combination. Numerical experiments associated with a housing demand shock show that in a number of cases, even if monetary policy can react strongly to inflation deviations from target, combining a credit-augmented interest rate rule and a Basel III-type countercyclical capital regulatory rule may be optimal for promoting overall economic stability. The greater the degree of policy interest rate smoothing, and the stronger the policymaker’s concern with financial stability, the larger is the sensitivity of the regulatory rule to credit growth gaps.

Suggested Citation

  • R. P. Agenor & K. Alper & L. Pereira da Silva, 2013. "Capital Regulation, Monetary Policy, and Financial Stability," International Journal of Central Banking, International Journal of Central Banking, vol. 9(3), pages 198-243, September.
  • Handle: RePEc:ijc:ijcjou:y:2013:q:3:a:6
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    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E51 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Money Supply; Credit; Money Multipliers
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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