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The Role of Central Banks in Financial Stability: How has it changed?

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  • Buiter, Willem H.

Abstract

The roles of central banks in the advanced economies have expanded and multiplied since the beginning of the crisis. The conventional monetary policy roles - setting interest rates in the pursuit of macroeconomic stability and acting as lender of last resort and market maker of last resort to provide funding liquidity and market liquidity to illiquid but insolvent counterparties - have both been transformed. With official policy rates near or at the effective lower bound, the size of the central bank's balance sheet and the composition of its assets and liabilities have become the new, 'poor man's', monetary policy instruments. The LLR and MMLR roles have expanded to include solvency support for SIFIs and, in the euro area, the provision of liquidity support and solvency support for sovereigns also. Concentrating too many financial stability responsibilities, including macro-prudential and micro-prudential regulation, in the central bank risks undermining the independence of the central bank where it is likely to be useful -- the conventional monetary policy roles. The non-inflationary loss-absorption capacity (NILAC) of the leading central banks is vast. For the ECB/Eurosystem we estimate it at no less than EUR3.2 trillion, for the Fed at over $7 trillion. This is tax payers' money that is not under the effective control of the fiscal authorities. The central banks have used their balance sheets and their NILACs to engage in quasi-fiscal actions that have been essential to prevent even greater financial turmoil and possible disaster, but that also have important distributional impacts between sectors, financial institutions, individuals and nations. The ECB was forced into this illegitimate role by the fiscal vacuum at the heart of the euro area; the Fed by the fiscal paralysis of the US Federal government institutions.

Suggested Citation

  • Buiter, Willem H., 2012. "The Role of Central Banks in Financial Stability: How has it changed?," CEPR Discussion Papers 8780, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:8780
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    References listed on IDEAS

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    1. Mitsuhiro Fukao, 2005. "The Effects of 'Gesell' (Currency) Taxes in Promoting Japan's Economic Recovery," Hi-Stat Discussion Paper Series d05-94, Institute of Economic Research, Hitotsubashi University.
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    Cited by:

    1. Ulrich Volz, 2015. "On the Future of Inflation Targeting in East Asia," Review of Development Economics, Wiley Blackwell, vol. 19(3), pages 638-652, August.
    2. David Cobham, 2012. "The past, present, and future of central banking," Oxford Review of Economic Policy, Oxford University Press, vol. 28(4), pages 729-749, WINTER.
    3. Francesco Cendron & Gianfranco Tusset, 2014. "Central BanksÕ Transparency: Words as Signals," "Marco Fanno" Working Papers 0178, Dipartimento di Scienze Economiche "Marco Fanno".
    4. Stracca, Livio, 2014. "Financial imbalances and household welfare: Empirical evidence from the EU," Journal of Financial Stability, Elsevier, vol. 11(C), pages 82-91.
    5. Thiemann, Matthias & Birk, Marius, 2015. "The regulation of repo markets: Incorporating public interest through a stronger role of civil society," SAFE White Paper Series 25, Goethe University Frankfurt, Research Center SAFE - Sustainable Architecture for Finance in Europe.
    6. repec:cmj:journl:y:2013:i:28:apatachioaea is not listed on IDEAS
    7. Adina APÃTÃCHIOAE, 2013. "CENTRAL BANKS AND FINANCIAL STABILITY - Literature review," SEA - Practical Application of Science, Fundația Română pentru Inteligența Afacerii, Editorial Department, issue 1, pages 245-254, June.

    More about this item

    Keywords

    Accountability; Central banks; Financial stability; Non-inflationary loss absorption capacity;

    JEL classification:

    • E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • G01 - Financial Economics - - General - - - Financial Crises
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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