Report

Governance Issues for Macroprudential Policy in Advanced Economies

Douglas J. Elliott

The recent severe financial crisis is leading policymakers around the world to add a new set of tools for the management of their economy.  “Macroprudential” policies may allow authorities to cushion the blow from dangerous financial crises by using an approach that fits between monetary policy for the economy as a whole and traditional regulation of individual financial institutions (now referred to as “microprudential” regulation to distinguish it from the new approach.) There are multiple definitions of “macroprudential,” but the core concept is to manage factors that could endanger the financial system as a whole, even if they would not be obvious as serious threats when viewed in the context of any single institution. Risks that are common to many financial institutions simultaneously, such as excessive exposure to housing credit, can combine with a high degree of interconnections between financial institutions to create systemic risks even when each individual institution appears sound, absent the potential for financial contagion.

Those unfamiliar with macroprudential policy may wish to read the author’s comprehensive primer on the topic, written for non-specialists, (see www.brookings.edu/papers/2011/0311_capital_elliott.aspx.[1]) This paper will examine one of the key issues in more detail: how should macroprudential authorities be structured and governed? Macroprudential policy has rarely been used in advanced economies in recent decades and the structures to set policy in this area are generally very new, or have not yet been formed. Even where an existing body is taking on these responsibilities, their nature will require new governance approaches. A number of questions therefore arise:

  • Should macroprudential policy be run by a single authority, multiple authorities, or a committee?
  • Which authority or authorities should be in charge of policy?
  • In practice, what entities will conduct macroprudential policy in the major financial centers?
  • What objectives should be given to the macroprudential authorities?
  • What tools should be available to the macroprudential authorities?
  • How should macroprudential authorities decide when and how to take action?
  • To what extent should authorities use subjective judgment?
  • How should macroprudential policy be coordinated with monetary policy?
  • How should macroprudential policy be coordinated with safety and soundness regulation?
  • How should policy be coordinated internationally?
  • How can we assure proper accountability for macroprudential decisions?
  • What other structural issues are important for sound governance?
  • What is the optimal communications strategy?
  • How could the authorities counter political pressure not to puncture bubbles?
  • What are the major risks facing the macroprudential authorities?