Docstoc

David_Aikman

Document Sample
David_Aikman Powered By Docstoc
					                      Curbing the credit cycle
        The role for countercyclical macroprudential policies


                                            by
                                      David Aikman*
                                     Bank of England

         Turkiye Cumhuriyet Merkez Bankasi Conference on “Incorporating Financial
                   Stability into Inflation Targeting”, November 25-26 2011



* The views expressed are those of the author and not necessarily those of the Bank of England
Financial Deepening…
                                            Bank Assets / GDP, 1870-2008
                      UK                                          US                                              AUS

  3                                           1                                               2
 2.5
                                             0.8                                             1.5
  2
 1.5                                         0.6
                                                                                              1
  1                                          0.4
 0.5                                         0.2                                             0.5

       1880 1900 1920 1940 1960 1980 2000          1880 1900 1920 1940 1960 1980 2000              1880 1900 1920 1940 1960 1980 2000

                      CAN                                        GRM                                              DNK
 1.2
                                             2.5                                              2
  1
                                              2                                              1.5
 0.8
                                             1.5
 0.6                                                                                          1
                                              1
 0.4                                         0.5                                             0.5

       1880 1900 1920 1940 1960 1980 2000          1880 1900 1920 1940 1960 1980 2000              1880 1900 1920 1940 1960 1980 2000

                      SPA                                         FRA                                             ITA


  1                                          1.2                                             1.5
                                              1
                                                                                              1
                                             0.8
 0.5
                                             0.6
                                                                                             0.5
                                             0.4
  0                                          0.2                                              0
       1880 1900 1920 1940 1960 1980 2000          1880 1900 1920 1940 1960 1980 2000              1880 1900 1920 1940 1960 1980 2000

                      NLD                                         NOR                                            SWE

                                             1.6
                                                                                              2
 1.5                                         1.4
                                             1.2                                             1.5
  1                                           1
                                                                                              1
                                             0.8
 0.5                                         0.6                                             0.5

       1880 1900 1920 1940 1960 1980 2000          1880 1900 1920 1940 1960 1980 2000              1880 1900 1920 1940 1960 1980 2000


                                                                             Source: Schularick & Taylor (2009), Bank calculations
                                                   10
                                                          12
                                                                           14
                                                                                                    16




-4
       -2
               0
                      2
                             4
                                        6
                                               8
     Q1:2000




                                                                                                    Per cent
     Q3:2000
     Q1:2001
     Q3:2001
     Q1:2002
     Q3:2002
     Q1:2003
     Q3:2003
     Q1:2004
     Q3:2004
     Q1:2005
     Q3:2005
     Q1:2006
     Q3:2006
     Q1:2007
                                                                              Mean




     Q3:2007
                                                                                               Max-Min




     Q1:2008
                                                                                                                G7 nominal credit growth




     Q3:2008
                                                                                                                                           … to Financial Disaster




     Q1:2009
     Q3:2009




               0.00
                      0.50
                                 1.00
                                            1.50
                                                   2.00
                                                          2.50
                                                                                  3.00
                                                                                                         3.50




 03-Jan-00
  03-Jul-00
 03-Jan-01
  03-Jul-01
 03-Jan-02
  03-Jul-02
 03-Jan-03
  03-Jul-03
 03-Jan-04
  03-Jul-04
 03-Jan-05
  03-Jul-05
 03-Jan-06
  03-Jul-06
 03-Jan-07
  03-Jul-07
                                                                                                                Price-to-book ratios




 03-Jan-08
                                                                                  Major UK banks
                                                                 European LCFIs




  03-Jul-08
 03-Jan-09
  03-Jul-09
Trends, cycles, and policy

• Staggering growth in Assets:GDP and Loans:GDP points to
  Financial Deepening e.g. a la Kiyotaki-Moore (JEEA, 2005)…

• … ‘Great Moderation’ and nominal stability…

• … but accompanied by growing real imbalances that were
  unsustainable in the medium run

• Key message:
   – Real frictions can generate medium term imbalances
   – Imbalances are inefficient from a social perspective
   – New (‘Macroprudential’) policy instruments needed to affect relative
     prices … act on the private marginal cost of ‘risk’
Plan for the talk

• Some stylised facts on credit over the medium term

• Sketch outline of modelling framework within which strategic
  complementarities drive excessive risk taking

• Optimal policy in this context

• Broader lessons for macroprudential policy design
Medium term credit cycles

•   Fisher (Ecta, 1933):
         “The old an apparently still persistent notion of “the” business
         cycle … is a myth. Instead of one cycle, there are many co-
         existing cycles, constantly aggravating or neutralising each
         other…”

•   Business cycle frequency (2-8 years) versus medium term frequency
    (8-20 years)

•   Business cycle frequency fluctuations in credit matter less than
    ‘stickier’ medium term cycles in credit when it comes to financial crises

•   eg Schularick & Taylor (AER, 2011): lagged real credit growth (5-6
    years) jointly significant in determining banking crisis probability
Medium term credit cycles (real bank credit)
                               UK                                                      US                                                   AUS
    20                                                      10                                                   15

    10                                                                                                           10
                                                             5
                                                                                                                  5
     0
%




                                                        %




                                                                                                             %
                                                             0                                                    0
    -10                                                                                                           -5
                                                             -5
                                                                                                                 -10
    -20
          1950   1960   1970    1980   1990   2000                1950   1960   1970    1980   1990   2000             1950   1960   1970    1980   1990   2000

                               CAN                                                     GRM                                                  DNK

                                                            20
    15
                                                                                                                 10
    10
                                                             0
     5                                                                                                            0
%




                                                        %




                                                                                                             %
     0                                                      -20
                                                                                                                 -10
     -5
    -10                                                     -40                                                  -20
          1950   1960   1970    1980   1990   2000                1950   1960   1970    1980   1990   2000             1950   1960   1970    1980   1990   2000

                               SPA                                                     FRA                                                  ITA
    20                                                                                                           20
                                                            10
    10                                                       5                                                   10
                                                             0
     0
%




                                                        %




                                                                                                             %
                                                                                                                  0
                                                             -5
    -10                                                     -10                                                  -10
                                                            -15
    -20
          1950   1960   1970    1980   1990   2000                1950   1960   1970    1980   1990   2000             1950   1960   1970    1980   1990   2000

                               NLD                                                     NOR                                                  SWE

    10                                                      20                                                   20

     5                                                                                                           10
                                                            10
     0
%




                                                        %




                                                                                                             %
                                                             0                                                    0
     -5
                                                            -10                                                  -10
    -10

          1950   1960   1970    1980   1990   2000                1950   1960   1970    1980   1990   2000             1950   1960   1970    1980   1990   2000


                                               Band-pass filtered series.
                                               Solid line = (2,20) year cyclical component.
                                               Dashed line = (8,20) year component.
                                               Blue lines = banking crisis (Reinhart & Rogoff)
             Real credit versus real income: UK
    25


    20
                                                   rGDP (8-20)
                                                   rGDP               • Medium term
                                                   rLoans (8-20)
                                                   rLoans
                                                                      component of credit is
    15
                                                                      large …
    10


     5                                                                •… dominates medium
                                                                      term component of real
%




     0
                                                                      income …
     -5


    -10
                                                                      • ‘Great moderation’…
    -15


    -20


    -25
      1940     1950   1960   1970   1980   1990   2000         2010
          Credit cycle and banking crises
                               (a)          (b)    (c) (d)          (e)
    20
                                                                          (a)   Secondary banking crisis
    15
                                                                          (b)   Johnson Matthey
    10                                                                    (c)   ‘Small banks crisis’
                                                                          (d)   Barings
     5
                                                                          (e)   Sub-prime
     0
%




                                                                          … (a), (c) and (e) were (are)
     -5
                                                                              systemic
    -10


    -15


    -20

          1950   1960   1970         1980         1990       2000
          Credit cycle and banking crises
                               (a)          (b)    (c) (d)          (e)
    20
                                                                          (a)   Secondary banking crisis
    15
                                                                          (b)   Johnson Matthey
    10                                                                    (c)   Small banks crisis
                                                                          (d)   Barings
     5
                                                                          (e)   Sub-prime
     0
%




                                                                          … (a), (c) and (e) were (are)
     -5
                                                                              systemic
    -10


    -15
                                                                          … Also currency crises!

    -20

          1950   1960   1970         1980         1990       2000
Cycle has spanned many monetary regimes




                 Band pass filtered real credit, (8,20) year components UK,
                 1880-2008.
Credit and crises

• Growing econometric evidence that , inter alia, credit matters for
  crises (e.g. Alessi & Detken (2009), Borio & Lowe (2002, 2004),
  Drehmann et al (2010), Schularick & Taylor (2011))

• Inefficient credit booms can result from failure of atomistic agents
  to internalise ex post impact of borrowing on others’ collateral
  constraints (Bianchi, 2010; Lorenzoni, 2008)

• But financial actors rarely behave in isolation => strategic
  complementarities (e.g. Acharya & Yorulmazer (2008); Sharfstein
  & Stein (1990); Gorton & He (2008); Rajan (1994))
Complementarities and crises

• Keynes’ sound banker:
      “A sound banker, alas, is not one who foresees danger and
      avoids it, but one who, when he is ruined, is ruined in a
      conventional and orthodox way with his fellows, so that no-
      one can really blame him” (1931)

• Chuck Prince’s sound banker:
      “As long as the music is playing, you’ve got to get up and
      dance. We’re still dancing”

• Keeping up with the Joneses  “Keeping up with the Goldmans”
Simple model

•     t = 0, 1, 2
•     Continuum of banks make initial investment at t = 0
•     Initial return depends on fundamentals (θ) and ability {high,low}
•     Neither observed by the market




    • f’(.) > 0: better fundamentals => high ability more likely to make
      high returns
    • If get 0, exit. If not, face choice
Choice at t = 1

•   0 < αf(θ) < 1 high ability invest again and obtain RH again.

•   ≈ 1 - αf(θ) obtained RL < RH

•   … some are high ability and some are low ability

•   Choice: {gamble, safe}

•   If {safe}, don’t invest and announce low returns for sure in t = 2.
•   If {gamble}, invest => if lucky, t = 2 payoff could resemble lucky high
    ability. Gamble is risky.

•   k% of investment financed by capital at marginal cost c > 0 (costly)
Reputation

• Banks care about returns and reputation
• Gambling is negative NPV…
• … but might still occur if probability of avoiding “low ability
  stigma” is high enough.
• If 0 < l < 1 is fraction of gamblers, reputational penalty of failing to
  achieve RH captured by:



                        => “Prince constraint”: Reputation worse when
                        fundamentals better

                        => “Keynes constraint”: Reputation worse as more banks
                        risk up
Equilibrium
•   Banks receive private signals xi about fundamentals
•   Global games techniques (Morris & Shin, 2002)
•   Threshold equilibrium:

                  Gamble if xi > θ*     Safe if xi ≤ θ*

•   Non-linear effects: even small changes in fundamentals can spark large
    credit booms => ‘stable’ fundamentals but ‘unstable’ credit (Great
    Moderation)
•   Threshold satisfies
                   θ* = θ(k,…),       θk > 0

 Higher capital requirements discourage gambling at the margin.
• Intuition: Gambling requires rapid balance sheet expansion, which is
  costlier when capital requirements are higher.
Implications for policy

•   Policymaker’s problem is non-trivial: discourage gambling vs punish all
    banks regardless of ability
•   Suppose policymaker cares about expected returns to the aggregate
    banking system S(k,.)
•   Raising capital requirements reduces gambling probability (“gambling
    effect”) … but reduces all banks’ payoffs (“cost effect”):
Cyclicality

•   Gambling incentives change over the cycle
•   High types more likely to make high returns from t = 0 investments…
•   … but reputational penalty to failing rises as fundamentals improve =>
    gambling incentives rise
•   => optimal policy is counter-cyclical
Macroprudential policy

• Optimal policy here is ‘macroprudential’ in nature:
    – Looks ‘across-the-system’ (cross-sectional externality)
    – Varies with the cycle


• Plays an allocational role

• Not modelled: loss absorbancy role

• Role of public information
Broader policy context

• Early phase of debate on appropriate macroprudential toolkit
    – UK: key role for new Financial Policy Committee
    – Europe: ESRB
    – FSB-IMF-BIS report to G20


• Cyclical tools: countercyclical capital buffer; variable risk
  weights; leverage ratio; countercyclical liquidiity buffers; LTVs;
  margins/haircuts

• Structural tools: SIFIs; CCPs and other financial market
  infrastructure; trading platforms; disclosure policy

• Priority area for research!
Conclusions

• Medium term fluctuations in credit are large and have spanned
  many monetary regimes

• Growing evidence that they are related to crises

• Credit booms and busts can arise from cross-institution
  externalities that require a macroprudential approach

• A new set of instruments to tackle these frictions

				
DOCUMENT INFO
Shared By:
Categories:
Tags:
Stats:
views:0
posted:6/4/2013
language:Unknown
pages:22
wu yunyi wu yunyi
About wuyyok@163.com