Monetary policy consequences of financial stability interventions: assessing the UK LDI crisis and the central bank policy response

Nicolò Bandera () and Jacob Stevens ()
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Nicolò Bandera: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH
Jacob Stevens: University of St Andrews

No 1070, Bank of England working papers from Bank of England

Abstract: We study the macroeconomic implications of non-bank financial institutions (NBFIs) in the context of the 2022 UK gilt crisis and estimate the monetary policy spillovers of financial stability interventions. We make three contributions. First, we develop the first DSGE model featuring liability driven investment (LDI) and pension funds. This novel framework in which LDI activity amplifies the movements in gilt prices allows us to replicate the UK gilt crisis, demonstrating a crucial mechanism through which NBFIs can amplify financial and economic distress. Second, we quantitatively estimate the monetary policy spillovers of the Bank of England financial stability asset purchases. We find that the asset purchases were successful in offsetting LDI-driven gilt market dysfunction. The temporary, targeted nature of these purchases was crucial in avoiding monetary spillovers. Third, we model two counterfactual instruments – an NBFI repo tool and a macroprudential liquidity buffer – and compare their effectiveness as well as monetary spillovers. Our results show that the central bank can successfully address NBFI-driven market stress without loosening monetary policy, avoiding potential tensions between price and financial stability

Keywords: Monetary policy; financial stability; asset purchases; liquidity crisis; liability-driven investors; gilt; DSGE model (search for similar items in EconPapers)
JEL-codes: C68 E44 E52 E58 G01 G23 (search for similar items in EconPapers)
Pages: 74 pages
Date: 2024-04-05
New Economics Papers: this item is included in nep-ban, nep-cba, nep-dge and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:boe:boeewp:1070

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