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Macroprudential Policy: Promise and Challenges

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  • Enrique G. Mendoza

Abstract

Macroprudential policy holds the promise of becoming a powerful tool for preventing financial crises. Financial amplification in response to domestic shocks or global spillovers and pecuniary externalities caused by Fisherian collateral constraints provide a sound theoretical foundation for this policy. Quantitative studies show that models with these constraints replicate key stylized facts of financial crises, and that the optimal financial policy of an ideal constrained-efficient social planner reduces sharply the magnitude and frequency of crises. Research also shows, however, that implementing effective macroprudential policy still faces serious hurdles. This paper highlights three of them: (i) complexity, because the optimal policy responds widely and non-linearly to movements in both domestic factors and global spillovers due to regime shifts in global liquidity, news about global fundamentals, and recurrent innovation and regulatory changes in world markets, (ii) lack of credibility, because of time-inconsistency of the optimal policy under commitment, and (iii) coordination failure, because a careful balance with monetary policy is needed to avoid quantitatively large inefficiencies resulting from violations of Tinbergen’s rule or strategic interaction between monetary and financial authorities.

Suggested Citation

  • Enrique G. Mendoza, 2016. "Macroprudential Policy: Promise and Challenges," NBER Working Papers 22868, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:22868
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    References listed on IDEAS

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    Cited by:

    1. Carrillo Julio A. & Mendoza Enrique G. & Nuguer Victoria & Roldán-Peña Jessica, 2017. "Tight Money-Tight Credit: Coordination Failure in the Conduct of Monetary and Financial Policies," Working Papers 2017-10, Banco de México.
    2. Mariarosaria Comunale, 2017. "Synchronicity of real and financial cycles and structural characteristics in EU countries," CEIS Research Paper 414, Tor Vergata University, CEIS, revised 25 Sep 2017.
    3. repec:eee:jimfin:v:93:y:2019:i:c:p:19-41 is not listed on IDEAS
    4. repec:bfr:fisrev:2017:21:06 is not listed on IDEAS
    5. Niels Gilbert & Sebastiaan Pool, 2016. "Sectoral allocation and macroeconomic imbalances in EMU," DNB Working Papers 536, Netherlands Central Bank, Research Department.
    6. Simon Dikau & Ulrich Volz, 2019. "Central Bank Mandates, Sustainability Objectives and the Promotion of Green Finance," Working Papers 222, Department of Economics, SOAS, University of London, UK.
    7. repec:bfr:fisrev:2017:21:03 is not listed on IDEAS
    8. Klingelhöfer, Jan & Sun, Rongrong, 2017. "Macroprudential Policy, Central Banks and Financial Stability: Evidence from China," MPRA Paper 79033, University Library of Munich, Germany.
    9. repec:pal:imfecr:v:67:y:2019:i:1:d:10.1057_s41308-018-0070-8 is not listed on IDEAS

    More about this item

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance
    • G01 - Financial Economics - - General - - - Financial Crises
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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