Abstract/Summary

This thesis presents three essays focusing on monetary and macroprudential regulation in emerging economies. The first essay contributes to the discussion on the policy trade-offs that exist when monetary and macroprudential policies are simultaneously implemented to achieve macroeconomic stability. The second essay is a collaborative research and evaluates the performance of the financial stress indices (FSIs) to provide valuable information about the state of the economy. It assesses FSIs constructed using advanced methods and simple averages. The final essay explores the effect of increasing the deposit insurance coverage threshold, on bank stability and financial development. It specifically uses the synthetic control method to examine the effects of a generous deposit insurance scheme on bank stability and financial development. The effects of macroprudential and monetary policy shocks in BRICS economies This essay examines the macroeconomic effects of the macroprudential and monetary policy shocks, in a framework where the policies have a dual mandate and target both the price and financial stability objectives. I employ the two-step system generalised method of moments (system-GMM) technique in a dynamic panel data model, over the 1990-2016 period. The essay uses the novel integrated macroprudential policy dataset (iMaPP) in the context of the five major emerging market economies: Brazil, Russia, India, China and South Africa (BRICS). The results indicate that a contractionary monetary policy shock eliminates the excessive growth of credit and house prices but increases the price levels. The increase in the price levels after a contractionary monetary policy shock indicates that there is a trade-off between financial stability and price stability objectives. Similarly, the impulse response function analysis reveals the presence of a negative correlation between the financial variables and output, after a contractionary macroprudential policy shock. Overall, the empirical findings suggest that there is a policy conflict when the policies respond to additional objectives beyond their primary targets. It is therefore beneficial for each policy to focus on its primary objective while considering the spillover effects of the other policy in a coordinated approach. A search for the best financial stability surveillance tool: Performance evaluation of financial stress indices The essay aims to address the emerging debate about whether financial stress indices (FSIs) constructed using advanced methods such as the dynamic factor model and the principal component analysis method, perform better than those aggregated using simple averages, for the case of South Africa. To do so, we construct three FSIs using: the equal-variance weighting method (EVM), the principal component analysis method (PCA) and the dynamic factor model (FAM). We compare the performance of the indices for the period 2009-2020, using four criteria: quantile regressions, ordered probit model, local projections and the autoregressive integrated moving average (ARIMA) forecasting model. The results suggest that FSIs aggregated using the dynamic factor model and the principal component analysis method have a significant comparative advantage in predicting a financial crisis and capturing the vulnerability of the South African financial system to external monetary policy shocks. This suggests that the aggregation method and weighting system involved in constructing a financial stress index affects its performance to monitor financial stability. Bank stability versus Financial development: A generous deposit insurer’s dilemma Using Brazil as a laboratory, this essay evaluates the effect of increasing the deposit insurance coverage limit, on bank stability and financial development. It uses a unique dataset that accounts for the multidimensional nature of financial development by capturing accessibility, depth and efficiency in financial markets and institutions. The empirical analysis utilises the synthetic control method to address the ambiguity concerns of choosing a comparison unit. In addition to estimating the effect of the policy interventions, the method creates an algorithm to identify a weighted combination of countries that have similar characteristics to Brazil. The countries are used as control units to set up a simulation that is reflective of the hypothetical absence of the policy intervention. The results suggest that increasing the coverage limit induces a trade-off between bank stability and financial development. More specifically, a generous deposit insurance supports financial development at the cost of bank stability, during the non-crisis period. However, in an economic crisis, the stabilising effect of deposit insurance dominates the moral hazard effect.