ESRB Chair Remarks on Development of Macro-Prudential Policy in Europe

Mr. Draghi outlined the following areas of further progress in macro-prudential policy:

• Analytical tools. Developing the analytical toolkit to adequately monitor inter-connectedness and contagion requires granular datasets, along with the ability to map and link data across entities and markets. Only a holistic view of the system will allow potential contagion channels to be identified and modeled; this requires investing in new technologies for data analytics and enhancing the capacity for authorities to link and share data and technical knowledge.

• Instruments to counter risks outside the banking sector. Mr. Draghi emphasized the need to broaden the range of macro-prudential instruments beyond those currently available, which focus almost exclusively on the banking sector. For the insurance sector, the contours of such instruments are taking shape. They include solvency instruments such as symmetric capital requirements for cyclical risks, liquidity instruments for insurers with a vulnerable liquidity profile, and instruments to target bank-like activities to ensure that macro-prudential policy is consistent across sectors.

• Framework to govern policy actions. He believes that such a framework would facilitate communication with market participants and the general public as well as help mitigate any risk of inaction bias. In contrast to the monetary policy framework, the framework that governs macro-prudential policy interventions is much less developed. Developing the policy framework is challenging and will take time. The ESRB approach uses the concept of residual risk, which is the difference between the level of risk and the current resilience of the financial system. In setting up the framework, policymakers need to establish the level of residual risk that they consider acceptable. Regular macro-prudential policy decisions would then follow a two-stage process. Policymakers assess the level of residual risk in the system and, if that diverges from the acceptable level, they then assess the policy tightening or loosening required to realign it.

Related Link: Speech

Keywords: Europe, EU, Banking, Insurance, Macro-Prudential Policy, Systemic Risk, Contagion Risk, Big Data, ECB, ESRB