IDEAS home Printed from https://ideas.repec.org/p/bis/biswps/505.html
   My bibliography  Save this paper

Phases of Global Liquidity, Fundamentals News, and the Design of Macroprudential Policy

Author

Listed:
  • Javier Bianchi
  • Enrique G. Mendoza

Abstract

The unconventional shocks and non-linear dynamics behind the high volatility of financial markets present a challenge for the implementation of macroprudential policy. This paper introduces two of these unconventional shocks, news shocks about future fundamentals and regime changes in global liquidity, into a quantitative non-linear model of financial crises. The model is then used to examine how these shocks affect the design and effectiveness of optimal macroprudential policy. The results show that both shocks contribute to strengthen the amplification mechanism driving financial crisis dynamics. Macroprudential policy is effective for reducing the likelihood and magnitude of financial crises, but the optimal policy requires significant variation across regimes of global liquidity and realizations of news shocks. Moreover, the effectiveness of the policy improves as the precision of news rises from low levels, but at high levels of precision it becomes less effective (financial crises are less likely, but the optimal policy does not weaken them significantly).

Suggested Citation

  • Javier Bianchi & Enrique G. Mendoza, 2015. "Phases of Global Liquidity, Fundamentals News, and the Design of Macroprudential Policy," BIS Working Papers 505, Bank for International Settlements.
    • Handle: RePEc:bis:biswps:505
    as

    Download full text from publisher

    File URL: http://www.bis.org/publ/work505.pdf
    File Function: Full PDF document
    Download Restriction: no
    File URL: http://www.bis.org/publ/work505.htm
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Guillermo A. Calvo & Leonardo Leiderman & Carmen M. Reinhart, 1996. "Inflows of Capital to Developing Countries in the 1990s," Journal of Economic Perspectives, American Economic Association, vol. 10(2), pages 123-139, Spring.
    2. Nir Jaimovich & Sergio Rebelo, 2009. "Can News about the Future Drive the Business Cycle?," American Economic Review, American Economic Association, vol. 99(4), pages 1097-1118, September.
    3. Gabriele Galati & Richhild Moessner, 2018. "What Do We Know About the Effects of Macroprudential Policy?," Economica, London School of Economics and Political Science, vol. 85(340), pages 735-770, October.
    4. Boz, Emine & Mendoza, Enrique G., 2014. "Financial innovation, the discovery of risk, and the U.S. credit crisis," Journal of Monetary Economics, Elsevier, vol. 62(C), pages 1-22.
    5. Enrique G. Mendoza & Marco E. Terrones, 2014. "An Anatomy of Credit Booms and their Demise," Central Banking, Analysis, and Economic Policies Book Series, in: Miguel Fuentes D. & Claudio E. Raddatz & Carmen M. Reinhart (ed.),Capital Mobility and Monetary Policy, edition 1, volume 18, chapter 6, pages 165-204, Central Bank of Chile.
    6. Benigno, Gianluca & Chen, Huigang & Otrok, Christopher & Rebucci, Alessandro & Young, Eric R., 2013. "Financial crises and macro-prudential policies," Journal of International Economics, Elsevier, vol. 89(2), pages 453-470.
    7. Durdu, Ceyhun Bora & Mendoza, Enrique G. & Terrones, Marco E., 2009. "Precautionary demand for foreign assets in Sudden Stop economies: An assessment of the New Mercantilism," Journal of Development Economics, Elsevier, vol. 89(2), pages 194-209, July.
    8. Gabriele Galati & Richhild Moessner, 2013. "Macroprudential Policy – A Literature Review," Journal of Economic Surveys, Wiley Blackwell, vol. 27(5), pages 846-878, December.
    9. Lane, Philip R. & Milesi-Ferretti, Gian Maria, 2001. "The external wealth of nations: measures of foreign assets and liabilities for industrial and developing countries," Journal of International Economics, Elsevier, vol. 55(2), pages 263-294, December.
    10. Jeanne, Olivier & Korinek, Anton, 2019. "Managing credit booms and busts: A Pigouvian taxation approach," Journal of Monetary Economics, Elsevier, vol. 107(C), pages 2-17.
    11. Durdu, C. Bora & Nunes, Ricardo & Sapriza, Horacio, 2013. "News and sovereign default risk in small open economies," Journal of International Economics, Elsevier, vol. 91(1), pages 1-17.
    12. Moritz Schularick & Alan M. Taylor, 2012. "Credit Booms Gone Bust: Monetary Policy, Leverage Cycles, and Financial Crises, 1870-2008," American Economic Review, American Economic Association, vol. 102(2), pages 1029-1061, April.
    13. Hyun Song Shin, 2014. "The Second Phase of Global Liquidity and Its Impact on Emerging Economies," Palgrave Macmillan Books, in: Kyuil Chung & Soyoung Kim & Hail Park & Changho Choi & Hyun Song Shin (ed.), Volatile Capital Flows in Korea, chapter 10, pages 247-257, Palgrave Macmillan.
    14. Carmen M. Reinhart & Kenneth S. Rogoff, 2014. "Recovery from Financial Crises: Evidence from 100 Episodes," American Economic Review, American Economic Association, vol. 104(5), pages 50-55, May.
    15. Lane, Philip & Milesi-Ferretti, Gian Maria, "undated". "External Wealth of Nations," Instructional Stata datasets for econometrics extwealth, Boston College Department of Economics.
    16. Anton Korinek & Enrique G. Mendoza, 2014. "From Sudden Stops to Fisherian Deflation: Quantitative Theory and Policy," Annual Review of Economics, Annual Reviews, vol. 6(1), pages 299-332, August.
    17. Emmanuel Farhi & Ivan Werning, 2012. "Dealing with the Trilemma: Optimal Capital Controls with Fixed Exchange Rates," NBER Working Papers 18199, National Bureau of Economic Research, Inc.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. repec:aeb:wpaper:201607:i:7:y:2016 is not listed on IDEAS
    2. Jhuvesh Sobrun & Philip Turner, 2015. "Bond markets and monetary policy dilemmas for the emerging markets," BIS Working Papers 508, Bank for International Settlements.
    3. Stelios Arvanitis & Alexandros Louka, 2015. "Martingale Transforms with Mixed Stable Limits and the QMLE for Conditionally Heteroskedastic Models," Working Papers 201508, Athens University Of Economics and Business, Department of Economics.
    4. Charles Nolan & Plutarchos Sakellaris & John D. Tsoukalas, 2016. "Optimal Bailout of Systemic Banks," Working Papers 2016_17, Business School - Economics, University of Glasgow.
    5. Pozo, Jorge, 2019. "Capital Flows and Bank Risk-Taking," Working Papers 2019-017, Banco Central de Reserva del Perú.
    6. Indrani Manna, 2018. "Can We Still Lean Against the Wind?," Open Economies Review, Springer, vol. 29(2), pages 223-259, April.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Bianchi, Javier & Liu, Chenxin & Mendoza, Enrique G., 2016. "Fundamentals news, global liquidity and macroprudential policy," Journal of International Economics, Elsevier, vol. 99(S1), pages 2-15.
    2. Juan M. Hernandez & Enrique G. Mendoza, 2017. "Optimal v. simple financial policy rules in a production economy with “liability dollarization," Revista ESPE - Ensayos sobre Política Económica, Banco de la Republica de Colombia, vol. 35(82), pages 25-39, April.
    3. repec:bdr:ensayo:v:35:y:2017:i:82:p:1-15 is not listed on IDEAS
    4. Enrique G. Mendoza, 2018. "Macroprudential Policy: Promise and Challenges," Central Banking, Analysis, and Economic Policies Book Series, in: Enrique G. Mendoza & Ernesto Pastén & Diego Saravia (ed.),Monetary Policy and Global Spillovers: Mechanisms, Effects and Policy Measures, edition 1, volume 25, chapter 7, pages 225-277, Central Bank of Chile.
    5. Javier Bianchi & Enrique Mendoza, 2020. "A Fisherian Approach to Financial Crises: Lessons from the Sudden Stops Literature," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 37, pages 254-283, August.
    6. Korinek, Anton & Sandri, Damiano, 2016. "Capital controls or macroprudential regulation?," Journal of International Economics, Elsevier, vol. 99(S1), pages 27-42.
    7. Ghosh, Atish R. & Ostry, Jonathan D. & Qureshi, Mahvash S., 2018. "Taming the Tide of Capital Flows: A Policy Guide," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262037165, December.
    8. Javier Bianchi & Enrique G. Mendoza, 2018. "Optimal Time-Consistent Macroprudential Policy," Journal of Political Economy, University of Chicago Press, vol. 126(2), pages 588-634.
    9. Fendoğlu, Salih, 2017. "Credit cycles and capital flows: Effectiveness of the macroprudential policy framework in emerging market economies," Journal of Banking & Finance, Elsevier, vol. 79(C), pages 110-128.
    10. Ma, Chang, 2020. "Financial stability, growth and macroprudential policy," Journal of International Economics, Elsevier, vol. 122(C).
    11. Laura Alfaro & Sebnem Kalemli-Ozcan & Vadym Volosovych, 2014. "Sovereigns, Upstream Capital Flows, And Global Imbalances," Journal of the European Economic Association, European Economic Association, vol. 12(5), pages 1240-1284, October.
    12. Bruno, Valentina & Shin, Hyun Song, 2015. "Capital flows and the risk-taking channel of monetary policy," Journal of Monetary Economics, Elsevier, vol. 71(C), pages 119-132.
    13. Korinek, Anton, 2018. "Regulating capital flows to emerging markets: An externality view," Journal of International Economics, Elsevier, vol. 111(C), pages 61-80.
    14. Reyes-Heroles, Ricardo & Tenorio, Gabriel, 2020. "Macroprudential policy in the presence of external risks," Journal of International Economics, Elsevier, vol. 126(C).
    15. Akıncı, Özge & Chahrour, Ryan, 2018. "Good news is bad news: Leverage cycles and sudden stops," Journal of International Economics, Elsevier, vol. 114(C), pages 362-375.
    16. Silvia Miranda-Agrippino & Hélène Rey, 2020. "U.S. Monetary Policy and the Global Financial Cycle," Review of Economic Studies, Oxford University Press, vol. 87(6), pages 2754-2776.
    17. Davis, J. Scott & Devereux, Michael B. & Yu, Changhua, 2023. "Sudden stops and optimal foreign exchange intervention," Journal of International Economics, Elsevier, vol. 141(C).
    18. Mark Gertler & Nobuhiro Kiyotaki & Andrea Prestipino, 2020. "Credit Booms, Financial Crises and Macroprudential Policy," Working Papers 2020-62, Princeton University. Economics Department..
    19. Rudiger Ahrend & Antoine Goujard, 2012. "International Capital Mobility and Financial Fragility - Part 1. Drivers of Systemic Banking Crises: The Role of Bank-Balance-Sheet Contagion and Financial Account Structure," OECD Economics Department Working Papers 902, OECD Publishing.
    20. Enrique G. Mendoza, 2017. "Política macroprudencial: promesas y desafíos," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 20(2), pages 042-088, August.
    21. Aikman, David & Haldane, Andrew & Hinterschweiger, Marc & Kapadia, Sujit, 2018. "Rethinking financial stability," Bank of England working papers 712, Bank of England.

    More about this item

    Keywords

    financial crises; macroprudential policy; systemic risk; global liquidity; news shocks;
    All these keywords.

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:bis:biswps:505. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Christian Beslmeisl (email available below). General contact details of provider: https://edirc.repec.org/data/bisssch.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.