Bank of Spain paper looks at macro-pru and growth at risk

Policy-makers should choose which macro-prudential measures they use based on where their country is in its financial cycle, a working paper published by the Bank of Spain argues.

In The benefits are at the tail: uncovering the impact of macro-prudential policy on growth-at-risk, Jorge Galán attempts to bring together recent macroeconomic research in two fields.

He looks at literature on the impact of macro-prudential policy and on “growth at risk”, and attempts to find ways in which they illuminate each other. In the medium term, macro-prudential policy both reduces downside risk to GDP and depresses median growth rates. The first effect seems to be bigger, he finds, which suggests that macro-prudential policy has “a net positive effect in the mid-term”.

But the effects of macro-prudential policy also vary according to several factors, he finds. These include where an economy is in the financial cycle, the type of macro-prudential instrument used, and the time since it was implemented.

“In particular, tightening capital measures during expansions may take up to two years in evidencing benefits on growth-at-risk,” Galán says. But the positive impact of borrower-based measures becomes apparent much more rapidly.

He suggests that this imbalance means policy-makers should implement capital-based macro-prudential measures, such as the countercyclical capital buffer, early in an expansionary financial cycle. This should give them enough time to take effect. Borrower-based measures can be tightened when the cycle is more advanced.

“Conversely, in downturns the benefits of loosening capital measures are immediate, while those of borrower-based measures are limited,” Galán says.