Revisiting the Framework of Macroprudential Policy: From Financial Stability Theory to Policy Practice

The Global Financial Crisis has revived the concept of macro-prudential regulation and has given way to the introduction of many new instruments. Today, the framework stands as an overarching public policy that aims towards achievement of financial stability across the globe. It has become an effective tool to combat the imbalances that arise due to interconnected balance sheets of financial institutions and has emerged as a complement to the traditional micro-prudential regulatory apparatus. The framework has exclusive measures to counter any unprecedent growth in credit, liquidity and capital components of the financial intermediaries. The present study discusses these measures rigorously. Many Emerging Market Economies have been using this toolkit since 1997 and have hence stayed insulated against the repercussions of the global recession. India, in particular, has a long-standing experience with the operation of the policy instruments particularly to contain the credit cycle and mitigate the systemic tendency of any financial risk. It has witnessed the exercise of the policy framework without any conflict with its macroeconomic goals like price stability and GDP growth. However, macroprudential policy is an infant regulatory framework. So, policy makers should take into account the limitations of the policy and make it work in conjunction with other major policies for effective functioning of an economy.