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Macroprudential regulation, credit spreads and the role of monetary policy

Research output: Working paperDiscussion paper

Published
Publication date29/04/2016
PublisherBank of England
Original languageEnglish

Publication series

NameBank of England Staff Working Papers
PublisherBank of England
No.599

Abstract

We study the macroprudential roles of bank capital regulation and monetary policy in a borrowing cost channel model with endogenous financial frictions, driven by credit risk, bank losses and bank capital costs. These frictions induce financial accelerator mechanisms and motivate the examination of a macroprudential toolkit. Following credit shocks, countercyclical regulation is more effective than monetary policy in promoting price, financial and macroeconomic stability. For supply shocks, combining macroprudential regulation with a stronger anti-inflationary policy stance is optimal. The findings emphasize the importance of the Basel III accords in alleviating the output-inflation trade-off faced by central banks, and cast doubt on the desirability of conventional (and unconventional) Taylor rules during periods of financial distress.