Research paper-Economics Harvard Case Solution & Analysis

The instruments of macro-prudential policy

Following are the macroprudential policy objectives of New Zealand.

v  The buffer of capital countercyclical

v  Core funding ratio

v  Sectorial capital requirements

v  Quantitative high loan-to-value ratio

The buffer of capital countercyclical

The countercyclical capital buffer (CCB) is a framework which is an additional capital requirement which leads to the application in times when the excessive private sector growth is assumed to be leading up to a system wide risk. Therefore this frame work of countercyclical capital buffer can be applied to all the locally incorporated banks, the banks that have their own balance sheet in the country New Zealand. The foreign parent of a particular bank branch that has been operating in the country or similarly an offshore bank that directly lends to the borrowers of the country New Zealand might choose to hold the CCB in New Zealand and expose it through the reciprocity provision envisaged under the Basel 3.

This frame work also helps during the credit cycle upswing which provides the banks and its system with the additional support against any loss that may occur or even sharpen up the increased risk weighted asset which is associated with the economic downturn. CCB over here helps every bank to actually meet the regulatory capital requirements while not making them reduce the lending to creditworthy borrowers of New Zealand. The three ways in which each bank can meet the requirements of the CCB are as follows:

      Banks can reduce the voluntary capital buffer while leaving the capital ratios unchanged

      Secondly, the banks can raise capital through equity or retained earnings

      Lastly, banks can reduce risk weighted assets by actually reducing exposure or also rebalancing from the risk weighted assets.

It is a clear fact the basic role of CCB is to meet the objectives of the increasing financial system resilience which may have influences from the dampening extremes of the credit cycle through the funding costs. In New Zealand, CCB can help in the voluntary buffering of the internal policies that will require raising capital which will help in aggregate financial system buffer (Blinder, 2010).

Core funding ratio

The baseline minimum core funding ratio (CFR) requires the banks to generate around seventy five percent of the funding from the retail deposits, capital or the long term wholesale funding. Adjustment for the core funding ratio varies the proportion of the stable funding that is required to fund the given amount of lending over a period of time. This CFR is applied to the local banks also. CFR adjustments are based on the reduction of the vulnerability of the banking sector with the disruptions in the funding market which increases the stickiness of the funds during the times of market pressure and also reduced rollover risk in the stock of wholesale funding also (Edy, 2012).

An upward adjustment of CFR also increases the system resilience by in fact increasing the usage of stable funding which helps in lean credit cycle period for the country New Zealand. These small adjustments help CRF to provide safety valve for the system which leaps in prolonging the funding and helps in controlling the flow of credit in the economy or the force excessive adjustment to the market condition with the bank deleveraging (Jacome, 2012).

Sectorial capital requirements

Another objective of marcoprudential policy is the sectorial capital requirements which require banks to hold extra capital against a decided sector in which excessive private sector growth is adjusted that helps in building up a system wide risk. SCR is quite similar to the CCB. Basically, SCR provides a temporary additional cushion against a loan which is provided to specific sectors. It also alters the relative attractiveness of lending to a target.  In New Zealand, banks decide to actually reduce the exposure to a particular sector with a focus on higher cost funding. It is a fact that when banks hold extra credit against the exposure to given sector the send a message which is quite positive and the market participants feel that the risk is less or low for the particular sector. With this in mind, expectations of slower credit growth also support the asset price expectation with the help in mitigating speculative demand.

Quantitative restrictions high loan-to-value ratio

Quantitative restrictions typically support in the form of speed limits which actually restrict the share of high loan to value ration which the banks undertake. The banks can also take the form of the outright limits with the proportion of the overall value of the residential property that is borrowed. Loan to value ration restricts in applying to all the banks in New Zealand. Therefore a speed limit is shared to the new loan to value ratio (Bloor, 2013)..............................

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