Abstract
Macroprudential regulation is the latest buzzword in economics but it means different things to different people. This book offers a framework to operationalize macroprudential policy. It defines systemic risk and macroprudential regulation, offers a rationale for macroprudential regulation and explains its differences with microprudental policy, discusses its interactions with macroeconomic policies, presents alternative methods to measure systemic risk, reviews country experiences with macroprudential policy, and discusses the strengths and weaknesses of various macroprudential tools and the trade-offs involved in choosing an optimal policy mix. The book emphasizes the preventive role of macroprudential policy in limiting the possibility and impact of financial crises, and concludes that the macroprudential policy mix needs to be chosen such that it deals both with the time dimension (i.e. procyclicality) and cross-sectional dimension (i.e., firm heterogeneity) of systemic risk. At the same time, the powers and effectiveness of macroprudential policy should not be overestimated. Its implementation will require a multitude of measures and there is a risk that these measures will conflict with each other, even though they share the same objective. Also, macroprudential policy needs to be combined with strong supervision, with an increased focus on the buildup of systemic risk through correlated risk exposures and risk taking by systemically important financial intermediaries. Weak supervision and generous too big to fail subsidies hamper the effectiveness of macroprudential policy. And there is a risk of political interference in the design and implementation of macroprudential regulation, limiting its effectiveness.
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