Macroprudential and Monetary Policies: In Search of Legal Interaction
It is widely recognized today that financial stability plays a major role in ensuring an efficient monetary environment, while the smooth functioning of monetary policy transmission channels is crucial for effective bank prudential policies and supervision. However, monetary policy’s capability of fostering credit institutions towards risk-taking behaviors and search for yield may ultimately endanger their stability and resilience leading to systemic events. Policymakers around the world have developed so-called macroprudential policies aimed at mitigating such systemic risks, and providing a new regulatory toolkit to central banks and competent supervisory authorities.
Macroprudential instruments are particularly important in the Eurozone because of the statutory constraints on monetary policy and the absence of a fiscal union capable of providing rebalancing transfers at the national level to relieve the impact of financial shocks. Moreover, because of their similar transmission channels, macroprudential and monetary policies may interact and influence each other. Depending on the policy decisions adopted, these interactions may in fact be consistent or inconsistent, providing optimal or suboptimal policy outcomes.
EU policymakers have exploited this relatively simple idea to develop the EU post-crisis financial architecture, seeking to balance the need to ensure price stability and, at the same time, avoid systemic risks. Finding an optimal balance, however, is not an easy task. Multiple proposals have been put forward at the EU level to achieve an efficient interplay between the two policies. New authorities have been created and entrusted with a vast array of powers and regulatory instruments in order to manage the complexity of this interaction. In other words, the EU financial architecture has been enriched by institutional mechanisms dealing with the interplay of monetary and macroprudential policies. These institutional mechanisms are set out by the law and provide for the “legal interaction” of the public policies at stake.
If the Eurozone is characterized by a financial environment where monetary and macroprudential policies are capable of affecting each other, questions arise on the soundness of this “legal interaction.” In particular, if the EU legal framework does not allow central banks and competent authorities to manage the policy side effects effectively, this may represent not only an economic challenge in the pursuit of price and financial stability but also a legal flaw that must be remediated.
Therefore, in analyzing the Eurozone legal framework, policymakers, regulators and practitioners should pay particular attention to the optimal institutional architecture that may permit the rapprochement of the two policies and the consistent alignment of any side effects. This analysis should reconcile any potential conflicts existing between financial stability and price stability through a broader reconsideration of institutional tasks, powers and responsibilities embedded in the law. Moreover, if negative interactions are recognized, new legal arrangements should be deployed as to ensure a coherent system of checks and balances in the achievement of price stability and financial stability and efficient cooperation among the authorities having monetary and macroprudential responsibilities.
We believe the Eurozone offers a spectacular opportunity for this analysis, in view of its ever-evolving policy and regulatory developments. The multi-layer nature of the EU reveals a complex construction where institutional tasks, powers and responsibilities seem to overlap, conflict and pull in different directions. As a result, the need to reconcile macroprudential policies across Member States with the single EU monetary policy becomes an intricate conundrum that requires much economic thinking and deep legal scrutiny.
Luca Amorello is the author of Macroprudential Banking Supervision & Monetary Policy and currently works as an Associate at Cleary Gottlieb Steen & Hamilton LLP in London, UK