The linkages between monetary and macroprudential policies

Abstract

Macroprudential policy is a new policy area within the international regulatory framework for banks known as Basel III. In this article we study the linkages between monetary and macroprudential policies in a dynamic general equilibrium model. Macroprudential policy is exemplified by a countercyclical capital buffer. We show that the monetary policy response to the introduction of a countercyclical capital buffer depends on the particular shocks driving the economic fluctuations. This is one reason why it is difficult to foresee the consequences for monetary policy of introducing the capital buffer. We also show that coordination of monetary and macroprudential policies may lead to improved macroeconomic and financial stability for certain shocks, while for others it may reduce the uncertainty of the central bank’s and the supervisory authority’s decisions.