Africa Finance Forum
Although the concept of macroprudential supervision dates back to the seventies, it has staged a remarkable comeback since the global financial crisis. There is now by and large consensus that pre-crisis approaches to regulation and supervision lacked a proper “macro” dimension, focusing exclusively on risk within individual financial institutions and insufficiently on assessing and controlling systemic risk. Macroprudential supervision is meant to fill this gap. It requires a holistic perspective on the financial sector, that pays due consideration to the interconnections between financial institutions, markets and infrastructure and the real economy. Operationalizing macroprudential supervision requires progress on several fronts: monitoring risk build-up and detecting when risks have materialized (i.e. macroprudential surveillance), and applying tools to curb the accumulation of risks (i.e. macroprudential policymaking).
Macroprudential surveillance should thus contribute to more informed choices with regard to macroprudential policymaking. Macroprudential supervision should be comprehensive, capturing the time-series and the cross-sectional dimension of systemic risk. The former refers to the tendency for financial firms, nonfinancial corporates and households, to overexpose themselves to risk in the upswing of a credit cycle, and to become overly risk-averse in a downswing, while the latter refers to the linkages within the financial system that can function as contagion channels in times of distress, potentially creating self-amplifying spirals and severe contagion effects.
Policymakers worldwide have enthusiastically embraced the rationale for macroprudential supervision. African policymakers are no exemption to the rule, as illustrated at a recent seminar in Douala on the topic where central bankers across the continent exchanged experiences. They strongly endorsed the rationale for macroprudential supervision, but also highlighted the difficulties in putting macroprudential supervision to actual practice. To some extent, this is a challenge that policymakers worldwide are struggling with. A satisfactory operational framework for macroprudential supervision is still lacking and the measurement of systemic risk is still “fuzzy”. In the case of Africa, these measurement issues are often exacerbated by concerns over data availability, reliability and comparability, and capacity constraints.
Participants of the seminar echoed these concerns, reiterating that the need for additional guidance for the practitioner. This includes a clarification of the scope of macroprudential supervision, its relation to existing microprudential supervisory frameworks, and the nexus between macroprudential surveillance and macroprudential policymakers. Policymakers in emerging market economies would also benefit from a systematic appraisal of the suitability of the various instruments (such as forward-looking provisioning requirements and countercyclical capital buffers) in light of the overall stage of economic and financial development: financial regulation is not without costs and there are concerns that measures to smooth the credit cycle can delay financial development.
Another important set of questions relates to the relevance of macroprudential supervision for African policymakers. Its relevance depends on many factors, especially the stage of economic and financial development. As a general rule, macroprudential supervision gains in importance as financial systems mature and deepen. The process of financial deepening is often accompanied by a changing composition of the financial system, with an increasing share of new financial instruments, greater leverage and the emergence of financial intermediation outside the realm of the deposit-taking banking system. Also, increasing cross-industry and cross-border integration contribute to greater interconnectedness of financial systems, both nationally and internationally while financial innovation leads to a more complex financial system, in terms of the intricacy of financial instruments, activities, and risks, as some countries in the region have already experienced.
An increasing body of academic research indicates that financial development can propel economic growth, but it also raises the economic costs of disruptions in the financial system, usually in the form of an erosion of economic activity and significant budgetary outlays to support troubled financial institutions. As financial systems mature, it thus becomes increasingly important that policymakers adopt a more holistic perspective on the financial sector and take timely measures aimed at curbing emerging risks to financial stability through macroprudential supervision.
The capacity of the authorities to credibly deliver on a macroprudential also matters. The lead agency responsible for macroprudential supervision, typically the central bank and the supervisory agency, need to be adequately resourced for the new task. Many central banks have established financial stability units responsible for periodic financial stability reports. To be effective, they need a critical mass of qualified staff, and access to information - including key prudential indicators from the supervisory agency. Ideally, the central bank should also be provided with an explicit mandate for financial stability. Since macroprudential supervision is essentially an add-on to microprudential supervision, a robust basic microprudential framework should be in place before branching out into this new territory. Lastly, the authorities responsible for macroprudential policies need to have sufficient gravitas and independence to overcome industry and political pressures, so that the outcomes of macroprudential analysis can be credibly translated into macroprudential policymaking. Scaling up macroprudential supervision can thus be a worthy objective, provided that these preconditions are met.
Miquel Dijkman is a senior financial sector specialist at the Financial and Private Sector Development Vice Presidency of the World Bank.