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Spillovers, capital ows and prudential regulation in small open economies

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  • Paul Castillo
  • Cesar Carrera
  • Marco Ortiz
  • Hugo Vega

Abstract

This paper extends the model of Aoki et al. (2009) considering a two sector small open economy. We study the interaction of borrowing, asset prices, and spillovers between tradable and non-tradable sectors. Our results suggest that when it is difficult to enforce debtors to repay their debt unless it is secured by collateral, a productivity shock in the tradable sector generates an increase in asset prices and leverage that spills over to the non-tradable sector, generating an appreciation of the real exchange and an increase in domestic lending. Macro-prudential instruments are introduced under the form of cyclical loan-to-value ratios that limit the amount of capital that entrepreneurs can pledge as collateral. Cyclical taxes that respond to the movements in the price of non-tradable goods are analysed. Simulation results show that this type of instruments significantly lessen the amplifying effects of borrowing constraints on small open economies and consequently reduce output and asset price volatility.

Suggested Citation

  • Paul Castillo & Cesar Carrera & Marco Ortiz & Hugo Vega, 2014. "Spillovers, capital ows and prudential regulation in small open economies," BIS Working Papers 459, Bank for International Settlements.
    • Handle: RePEc:bis:biswps:459
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    Cited by:

    1. César Carrera, 2018. "Estimación del Consumo a partir de sus Componentes Principales en la Tabla Insumo-Producto," Working Papers 129, Peruvian Economic Association.
    2. Pozo, Jorge, 2023. "Sectoral credit reallocation: An excessive bank risk-taking explanation," Emerging Markets Review, Elsevier, vol. 54(C).
    3. Ribeiro, Joao, 2015. "Medidas macroprudenciales y política monetaria en una economía pequeña y abierta," Revista Estudios Económicos, Banco Central de Reserva del Perú, issue 29, pages 55-76.
    4. Alan Finkelstein Shapiro & Andres Gonzalez, 2015. "Macroprudential Policy and Labor Market Dynamics in Emerging Economies," IMF Working Papers 2015/078, International Monetary Fund.
    5. Ansgar Belke & Christian Fahrholz, 2018. "Emerging and small open economies, unconventional monetary policy and exchange rates – a survey," International Economics and Economic Policy, Springer, vol. 15(2), pages 331-352, April.
    6. Galarza, Francisco & Requejo, Fernando, 2019. "Reducing Informality Using Two-Sided Incentives: Theory and Experiment," Working Papers 2019-003, Banco Central de Reserva del Perú.
    7. Pozo, Jorge, 2023. "The effects of countercyclical leverage buffers on macroeconomic and financial stability," The Quarterly Review of Economics and Finance, Elsevier, vol. 89(C), pages 194-217.

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    More about this item

    Keywords

    Collateral; productivity; small open economy;
    All these keywords.

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E23 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Production
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G01 - Financial Economics - - General - - - Financial Crises
    • O11 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Macroeconomic Analyses of Economic Development
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance

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