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Credit in monetary and (macro-) prudential policy by Claudio Borio Comments by Stefan Gerlach University of Frankfurt
Yet another paper on the nexus between credit, monetary policy and financial stability. –Earlier work has been widely cited and influential in policy community. Much to agree with … –In particular, credit plays a crucial role in asset price booms and busts, and in episodes of financial instability. … but also a some things to disagree with. © Stefan Gerlach 2
1. Information content of credit Contradiction: –Presentation emphasizes (on p. 8) that credit-to-GDP & asset price “gaps” contain information about future output, inflation and the likelihood of financial distress (p. 8). –But it also states (on p. 11) that “information content is highly non-linear and episodic” and that “linear correlations do not help.” © Stefan Gerlach 3
RMSFE for inflation (1-20 quarters ahead) 18 OECD countries; ; 7 models; credit, equity & property price gaps; benchmark include short rate, inflation, output gap. Using credit and asset price gaps leads to worse forecasts. Assenmacher-Wesche & Gerlach, Economic Policy, © Stefan Gerlach 4
Overall, information claim appears exaggerated : –C & AP gaps largely uninformative about inflation and output. –Does not improve as longer horizons are considered. Policy conclusions: 1.Imprudent to rely on indicators whose information content is “episodic” and hard to establish. 2.The notion that “extending the horizon” raises the usefulness of C & AP as indicators seems incorrect. © Stefan Gerlach 5
2. MaP and Monetary Policy Paper’s policy conclusions: –“Imprudent to believe that MaP policy is enough … [and CBs should]... tighten even if near-term inflation appears under control.” Reinhart and Rogoff (2009): –“A single minded focus on inflation can be justified only in an environment in which other regulators are able to ensure that leverage … does not become excessive.” (p. 291, my underlining) © Stefan Gerlach 6
Focus on improving other (MaP) policies: –Spectacular failure: SIVs; Northern Rock; subprime mortgage originators; … –Much more focused than monetary policy. –Many tools (but not always under CB’s control, and a clear legal mandate is needed): Reserve requirements; risk weights; loan-to-value ratios; … Responding with interest rates to credit and asset prices will amplify business cycles. © Stefan Gerlach 7
Several estimates in literature: –Walentin and Sellin (2010) estimate that depressing house prices by 10% would reduce real GDP by 6%. –Assenmacher-Wesche and Gerlach (2010) estimate that doing so would reduce real GDP by 4%. –“Leaning against the wind” could be costly. –Large changes in interest rates are needed. © Stefan Gerlach 8
Policy conclusions 1.Need to be imaginative & ambitious with MaP:s. 2.Leaning against the wind could be very costly. © Stefan Gerlach 9
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