On the nexus of monetary policy and financial stability

Cyclical measures While regulatory and supervisory measures traditionally increase the resilience of the financial system and lead to greater financial stability in the long run, their countercyclical application over the cycle—tightening more at the time of the buildup of imbalances—affects the short-run outlook (see, for example, Stein 2013; Kohn 2013; and Bean 2014). [...] The experience of Switzerland in using the CCyB to address imbalances in the housing sector suggests that it might have been effective.10 However, the experience of Norway suggests that, while the CCyB can be useful for signalling systemic risk from cyclical imbalances and the need for increased resilience, it is not an effective instrument for fine-tuning the economy or the financial cycle. [...] The effectiveness of monetary policy leaning, therefore, often depends on financial system conditions at the time of the policy change, and on their reaction to this change relative to the responses of macroeconomic variables. [...] For example, the response of house prices affects the value of collateral and hence the amount of household borrowing; the resulting debt-to-income ratio affects the sensitivity of the consumption response (Bruneau et al. [...] Dudley goes on to say that the dramatic tightening of financial market conditions, in the wake of the financial crisis in 2008, proved the degree of monetary accommodation to be insufficient, and the economy went into a sharp contraction In all, variation in the pass-through of monetary policy to the economy resulting from developments in financial system conditions raises the question of whether