On the use of monetary and macroprudential policies for financial stability in emerging markets

Gulcin Ozkan and Filiz Unsal

Discussion Papers from Department of Economics, University of York

Abstract: This paper explores optimal monetary and macroprudential policy rules in an open-economy with significant exposure to external borrowing in the face of a sudden reversal of capital inflows. We consider optimal Taylor-type interest rate rules, where the policy rate is set as a function of inflation, output, and credit growth; and a macroprudential instrument is set as a function of credit growth. We have two key results. First, we find that, in the presence of macroprudential measures, there are no significant welfare gains from monetary policy also reacting to credit growth above and beyond its response to inflation. Thus, from a welfare point of view it is better to delegate ’lean against the wind’ squarely to macroprudential policy. Second, the source of borrowing (domestic versus foreign) plays a crucial role in the choice of policy instrument in responding to credit market developments. When the source of borrowing is external, monetary policy responses required to stabilize financial markets would be unduly large. In contrast, macroprudential instrument can directly influence the cost of credit and ease the fiancial markets. Therefore, emerging economies where foreign borrowing is typically sizeable are likely to find macroprudential measures particularly effective in promoting financial stability.

Keywords: Financial instability; monetary policy; macroprudential measures; emerging markets; and financial crises (search for similar items in EconPapers)
JEL-codes: E5 F3 F4 (search for similar items in EconPapers)
Date: 2013-11
New Economics Papers: this item is included in nep-ban, nep-cba, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

Downloads: (external link)
https://www.york.ac.uk/media/economics/documents/discussionpapers/2013/1314.pdf Main text (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:yor:yorken:13/14

Access Statistics for this paper

More papers in Discussion Papers from Department of Economics, University of York Department of Economics and Related Studies, University of York, York, YO10 5DD, United Kingdom. Contact information at EDIRC.
Bibliographic data for series maintained by Paul Hodgson ().