Credit Booms, Macroprudential Policy and Financial Crises

Credit booms have been found to be one of the best predictors of banking crises in both advanced and developing countries. The ultimate objective of macroprudential policies is to avoid macroeconomic costs linked to financial... [ view full abstract ]

Credit booms have been found to be one of the best predictors of banking crises in both advanced and developing countries. The ultimate objective of macroprudential policies is to avoid macroeconomic costs linked to financial instability. Consequently, the purpose of this study is to investigate whether macroprudential policies have been effective to deal with credit booms in 41 advanced and developing countries between 2000Q1 and 2014Q4. Most of the previous empirical literature with cross-country data assess the effectiveness of macroprudential policies in curbing credit growth. However, in this study logit estimations are conducted with a binary dependent variable capturing credit booms. The results show that an aggregate index including five different macroprudential policy instruments is negatively and significantly associated with domestic bank credit booms. Moreover, two sub-groups of aggregate indexes with borrower- and financial institution-based instruments or reserve requirement instruments are also found to be negatively linked to the occurrence of bank credit booms. The results for aggregate indexes are robust to the inclusion of country and year fixed effects. In addition, individual reserve requirement instruments with local or foreign currency denominated accounts are also found to have negative and significant coefficients. This is one of the first studies showing that macroprudential policies are also effective to reduce the likelihood of specifically those credit booms that are followed by systemic banking crises. In addition, both individual and aggregate indexes with macroprudential policies are found to be effective to reduce the likelihood of booms in household credit. Finally, the results hold for several robustness tests such as estimations with different time periods, country groups and an alternative method to identify credit booms.

JEL classification: E58, G01, G18, G28

Keywords: Credit Booms, Macroprudential Policy, Banking Crises