Monetary and macroprudential policy coordination among multiple equilibria

Abstract

The notion of a tradeoff between output and financial stabilization is based on monetarymacroprudential models with unique equilibria. Using a game theory setup, this paper shows that multiple equilibria lead to qualitatively different results. Monetary and macroprudential authorities have tools that impose externalities on each other's objectives. One of the tools (macroprudential) is coarse, while the other (monetary policy) is unconstrained. We find that this asymmetry always leads to multiple equilibria, and show that under economically relevant conditions the authorities prefer different equilibria. Giving the unconstrained authority a weight on "helping" the constrained authority ("leaning against the wind") now has unexpected effects. The relation between this weight and the difficulty of coordinating is hump-shaped, and therefore a small degree of leaning worsens outcomes on both authorities' objectives.

Monetary policy, prudential policy and bank's risk‐taking: A literature review

“…The coordination of monetary and macroprudential policy can be summarized through a game theory. An interesting work that well depicts the loss of each policy is that of Agur (2019). The coordination of the two policies can be assimilated to a prisoner's dilemma where each policy tends to minimize its coordination cost (see Table ??).…”

“…When monetary policy is loosened, macroprudential policy must be tightened for a better outcome for both policies. But, as stated by Agur (2019), since the game has two Nash equilibria, the authorities disagree which of these is better. The presence of a coordination problem is immediate, as is the conflict of preferences, since monetary authority prefers the top-right equilibrium, and regulator the bottom-left (i.e., the equilibria with the lowest losses in the respective authorities' loss functions).…”

Prospects For The Development Of Monetary Policy Of Russia Under Digitalization

“…The changes in the economy under the influence of globalization require an effective national monetary policy, while analyzing the policies implemented in foreign countries (Agur, 2019;Avdjieva & Haleb, 2019;Hakenes, Hasan, Molyneux, & Xie, 2015;Huang, Yeh, & Wang, 2019) -the most important, if not the only goal of central banks in the vast majority of countries has traditionally been considered to be to maintain inflation at a stable low level to ensure GDP growth in the face of increasing "market failures", and almost the only tool to change interest rates;…”

Leaning Against the Wind

“…So far, we have compared the effects of different policies assuming countries use each policy in isolation. In practice, central banks and prudential authorities are likely to want to use a combination of policies, in order to reap synergies across tools, even as the rationale and direction of such complementary use can differ (e.g., Nier and Kang 2016, Bruno and others 2017, Akinci and Olmstead-Rumsey 2018, Agur 2019, andBodenstein andothers 2019).…”