Macroprudential and monetary policy tightening: more than a double whammy?

Summary

Focus

The interaction between monetary and macroprudential policies has become a key area of focus in policy discussions and economic research. According to the Tinbergen principle, each policy tool should be directed at the target it most effectively addresses – monetary policy aims at price and economic stability, while macroprudential policies focus on financial stability. In theory, even when these policies interact or generate spillovers, they can be adjusted independently to achieve their respective objectives. However, in practice, many imperfections exist and their interplay often requires careful recalibration to account for their complementary or substitutive effects. These aspects remain underexplored.

Contribution

This study investigates the combined effects of monetary and macroprudential policy tightening using granular micro-data from AnaCredit, the euro area credit register. The analysis merges these data with supervisory and financial information for around 2,000 banks, including detailed information on bank-specific capital requirements. The research focuses on a period when significant macroprudential tightening – through higher bank capital buffer requirements – coincided with an unexpected monetary policy tightening marked by the steepest interest rate hikes in euro area history.

Findings

We find that, for the average bank, a capital tightening does not amplify the lending contraction caused by monetary policy tightening. However, for capital-constrained banks, lending declines significantly more, with firms unable to fully compensate by borrowing from less capital-constrained banks. Additionally, capital-constrained banks are more reluctant to pass higher policy rates on to their borrowers, potentially due to relationship-based or zombie lending. Finally, following a capital tightening in a fast-rising interest rate environment, capital-constrained banks tend to take fewer risks, reducing loan-to-value ratios for newly originated loans and requiring safer collateral. Overall, the study highlights the importance of accounting for policy interactions and bank heterogeneity when assessing the effects of monetary and macroprudential policies on lending volume, cost and risk.

Abstract

We investigate the interaction between monetary and macroprudential policy in affecting banks' lending and risk-taking behaviour using rich euro area credit registry data and exploiting a unique setting that combined a sharp and unexpected monetary tightening with a wave of macroprudential tightening initiated before. While, for the average bank, required capital buffer increases did not significantly reduce lending additionally during the monetary tightening, for those banks that became capital-constrained lending fell by about 1.3-1.8 percentage points more for existing credit relationships and new bank-firm relationships were 2.5-4.4 percentage points less likely to be established, both relative to better-capitalized banks. In addition, such banks were more reluctant to pass higher policy interest rates on to their borrowers and took fewer risks, with a greater reduction in the LTV ratio for newly originated loans, and less reliance on risky assets, such as commercial real estate, as collateral. Our analysis shows that when calibrating monetary and macroprudential policies, it is crucial to account for the effects of policy interactions and the role of bank heterogeneity.

JEL classification: E5, E51, G18, G21

Keywords: bank lending, risk-taking, macroprudential policy, monetary policy