The Macroprudential Approach to Financial Stability

The article is based on a keynote address with the same title that was given at the conference entitled “Monetary Policy and Financial Stability”, hosted by the Oesterreichische Nationalbank in Vienna on 12 May 2005.Introduction: Financial stability has become an increasingly important objective in economic policymaking during recent decades. In the 1980s, direct regulation of credit markets and capital flows was dismantled in many countries. This prepared the ground for an expansion of the financial system at a faster pace than other parts of the economy. In this process, the financial system has undergone important structural changes and become more complex. The instruments have become more intricate, the activities more diversified and the risks more mobile. As a result of increasing cross-industry and cross-border integration, financial systems have also become more interwoven, both nationally and internationally. In parallel with the strong growth of the financial system, we have seen more frequent instances of widespread financial distress. The resulting macroeconomic costs have often been sizeable. Financial crises have typically been associated with boom and bust cycles in asset prices and credit. Due to sharp growth in house prices and household debt in several countries in recent years, the question of whether monetary policy should be used to mitigate such developments has received increased attention. In the light of these developments, I would like to address four main questions. What do we mean by financial stability, how do we analyse it, how do authorities cooperate in order to support it, and finally, what instruments are available to secure financial stability