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Countercyclical capital regulation in a small open economy DSGE model

Published online by Cambridge University Press:  24 May 2022

Matija Lozej ,
Luca Onorante  and
Ansgar Rannenberg
Matija Lozej
Affiliation:
European Central Bank, Frankfurt, Germany
Luca Onorante
Affiliation:
European Commission DG Joint Research Centre, Ispra, Italy
Ansgar Rannenberg*
Affiliation:
National Bank of Belgium, Brussels, Belgium
*
*Corresponding author. Email: Ansgar.Rannenberg@gmail.com
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Abstract

We examine, conditional on structural shocks, the macroeconomic performance of different countercyclical capital buffer (CCyB) rules in small open economy estimated medium-scale Dynamic Stochastic General Equilibrium (DSGE) model. We find that rules based on the credit gap create a trade-off between the stabilization of fluctuations originating in the housing market and fluctuations caused by foreign demand shocks. The trade-off disappears if the regulator responds to house prices instead. It turns out that the welfare-maximising simple CCyB rule implies responding to house prices only and not to the credit gap. Such rule also leads to significant welfare gains compared to the no CCyB case.

Keywords

Bank capitalcountercyclical capital regulationhousing bubblesboom-and-bust
Type
Articles
Information
Macroeconomic Dynamics , Volume 27 , Issue 5 , July 2023 , pp. 1230 - 1267
Copyright
© The Author(s), 2022. Published by Cambridge University Press

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Footnotes

*

The views expressed here are those of the authors and do not necessarily reflect the views of the Central Bank of Ireland, the ECB, the National Bank of Belgium, or of the Eurosystem. We thank participants at the ECB’s Working Group for Econometric Modelling, OMRTF team, 2016 EEA, INFINITI, IMFS conferences, 2017 IFC-NBB conference, 2017 CBMM workshop, MMCI Research Conference, 2018 CEBRA Annual Meeting, and Daragh Clancy, Martin O’Brien, Gabriel Fagan, Reamonn Lydon, Gerard O’Reilly, and Luca Zavalloni for helpful comments. Most of the analysis was conducted while the authors were working at the Central Bank of Ireland.

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