Macro-Prudential Policy:

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Macro-Prudential Policy How to Design for
Success By C.A.E. Goodhart
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Introduction   Recent events have underscored Hy
Minskys analysis that the achievement of price
stability does not entail, and can even put at
greater risk, the maintenance of financial
stability. The Central Bank has responsibility
for both indeed historically the latter had
precedence, (the Gold Standard maintaining price
stability).  
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The Rationale of Macro-Pru   With two separate
objectives, the Tinbergen principle would suggest
two differing instruments, hence macro-pru. But
how does macro-pru differ from interest rate
policy do not both operate on the cost and
availability of finance?   Macro-pru, in the form
of capital requirements, margins, etc., needs to
be much more directional and specific (granular)
in relation to the location and use of funds,
(e.g. mortgages in London, but not in N.E.).
Specific constraints are much more porous
interest rates fill all cracks. Also
directional policies have more obvious
distributional effects and so may be more
resented.  
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Can Macro-Pru Work?   Having a contra-cyclical
macro-pru policy is a splendid idea in theory,
but will it work in practice?   Most difficult in
a bust after a financial crisis, since latter
demonstrated that capital and liquidity were too
low. So Micro-pru strongly contractionary more
capital, more liquid assets, deleveraging. How
can one get any expansionary macro-pru at the
same time?   Distinguish requirements on margin
(and on new assets) from those on average (old
assets). FLS, HtB.   If there was, as there
should have been, a ladder of sanctions, the
penalty for dropping down a rung, or two, could
be lessened. Forebearance can be beneficial
temper the wind to the shorn lamb.  
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• Macro-Pru in the Boom
•  
• In the boom the objectives of micro and macro-pru
  work together. But might macro-pru then have an
  upwards ratchet, (raised in the boom, not lowered
  in the bust), until limited by avoidance?
•  
• On the other hand will macro-pru be applied
  sufficiently aggressively, o.a.
•  
• Uncertainty about sustainability
• Political opposition (housing)
• Limited experience, hence caution
• Asset price expectations in a bubble.
• N.B. FPC did not initially even ask for powers
  to vary LTV and LTI. HtB now forcing them to
  take a position.

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Sir Andrew Large, (December 2013)
..it is almost inevitable that the policy
actions required to ensure that crisis conditions
do not occur will be unpopular. It is hard to
visualize now how pre 2007 any authority which
had not been explicitly tasked to do so, could
have stood up simultaneously to the politicians
wanting continued growth, the industry wanting to
maximize profits and the public wanting to
maximize their spend through increasing levels of
debt. This of course strongly suggests that, to
meet this objective, you need a body which is
fully independent from the broader political
process, both as to analysis and desired policy
response.
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The Structure of Macro-Pru   Far from conflicting
with monetary policy, the adoption of macro-pru
relaxes a constraint on monetary policy (Sweden,
UK 2014).   Best done by Central Bank, but
subject to separate considerations, analyses,
forecasts. MPC and FPC appropriate. How about
micro and macro FSOC (US), Sweden? No clear
best approach.  
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• How to make Macro-Pru Successful?
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• Precommitment to quantitative rules, Comply or
  explain.
• Needs political support (HtB).
• Ladder of sanctions, with time/state varying
  penalties.
•  
• Worries
•  
• May damage independence/credibility of CB.
• May not be used aggressively enough. 
• Difficult/impossible to use in a bust. 
• Works in theory, but not in practice?