Hartmann 2015 10 30 Discussion of Bank of England's approach to stress testing the UK banking system by P Hartmann final

Philipp Hartmann European Central Bank Discussion of “The Bank of England’s Approach to Stress Testing the UK Banking S...

1 downloads 422 Views 63KB Size
Philipp Hartmann European Central Bank

Discussion of “The Bank of England’s Approach to Stress Testing the UK Banking System”

London 30 October 2015

London School of Economics/CEPR Conference on “Stress Testing and Macro-prudential Regulation: A Trans-Atlantic Assessment”

Disclaimer: Any views expressed are only the speaker’s own and should not be regarded as views of the ECB or the Eurosystem

Rubric

Two versions of the macro-prudential policy objective • Asymmetric •

Ensure systemic financial stability



Avoid financial crises



“Prudential” taken literally (ex ante perspective)

• Symmetric •

Ensure the smooth flow of financial intermediation services (ex ante and ex post perspective) Governing Council •

Smoothen the financial cycle, both in the upturn and in the downturn



More like a third aggregate stabilisation policy (in addition to monetary and fiscal policy)



More ambitious

1

www.ecb.europa.eu ©

Rubric

Annual stress test with “cyclical scenario” • Countercyclical design of stress test • Upturn of financial cycle: “harsher” scenario •

Rapid growth of credit and asset prices



Compressed risk premia



Effective instability low but underlying risks growing (emerging imbalances?)

• Downturn of financial cycle: “softer” scenario Governing Council • Correction of

credit provision and asset prices



High risk premia



Effective instability large

soft

harsh

• Some steps towards symmetric approach • Rules versus discretion:

harsh

soft

Constrained discretion

t 2

www.ecb.europa.eu ©

Rubric

Policy responses and challenges • If the stress test results suggest changes of capital 1) Financial Policy Committee considers system-wide buffers 2) Prudential Regulation Authority considers individual banks’ buffers Question: Can PRA also reduce some individual buffers or creates the FPC a hard floor?

• Challenges •

How to determine the state of the financial cycle and be consistent over time? Indicators may point in different directions → Judgement



Design may work better in regular financial cycles than in crisis cycles: In a severe financial crisis it may sometimes be necessary to re-establish supervisory credibility and market confidence by generating a larger capital increase (e.g. if minimum requirements are violated)



Probably many more…

Governing Council

3

www.ecb.europa.eu ©

Rubric

Risk in a severe crisis: Illustration from 3D model Effects of a persistent reduction in home prices and firm valuations on GDP 0.2

0.2

0

0

-0.2

-0.2 -0.4

CCB Release

-0.6

-0.6

-0.8

-0.8

per cent

per cent

-0.4

-1

-1.4

-1.4

-1.6

-1.6

Governing Council -1.8 -2

5



10

-1.8

15 quarters

20

25

-2

30

Higher capital requirements (10.5%) –

NO CCB Release

-1 -1.2

NO CCB Release

-1.2

CCB Release



Release attenuates shock propagation for the first 1.5 years

5

10

15 quarters

20

25

30

Lower capital requirements (8%) –

Release attenuates shock propagation early on



But when capital becomes too low excessive defaults may also worsen the situation

Source: Clerc, Derviz, Mendicino, Nikolov, Moyen, Stracca, Suarez and Vardoulakis (2015), Capital regulation in a macroeconomic model with three layers of default, International Journal of Central Banking, 11(3), pp. 9-63. Novel approach for assessing the benefits and costs of macro-prudential regulatory policies developed under the ESCB Macro-prudential Research Network (MaRs). 4

www.ecb.europa.eu ©

Rubric

Other comments • Capital policies may not be the most effective regulatory instrument against the sources of financial imbalances •

Evidence that borrower based instruments more effective than lender based instruments (Claessens, Gosh and Mihet 2014)



Capital may not “lean” as much against the financial cycle as LTVs, DTIs and the like

• Did the FPC’s secondary objective play a role in excluding (for the Governing Council moment) medium-sized banks? (box 1) •

Less burden on them



Easier to innovate and grow to compete with the large ones in the future?

• Work with home supervisor that the parent group supports the UK investment banking subsidiary of a foreign-owned bank? (p. 24) • We agree that it should be explored how stress tests can be extended to the wider financial system (box 5) 5

www.ecb.europa.eu ©