Macro-prudential policy FAQs

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Macroprudential policy aims to limit the serious and lasting consequences of boom-bust cycles for the financial system, the economy and society. An unsustainable boom in credit and asset prices can result in a bust that creates losses for banks, businesses and households, and hampers the ability of banks to continue lending to the economy.

Macroprudential policy is one part of the Reserve Bank’s toolkit for maintaining financial stability – the consistent supply of financial services that the economy relies on. It can reduce the impact of a stress scenario on the financial system by:

  • building additional resilience in the financial system, so that banks can support the economy even when it is under stress; and
  • reducing risky mortgage lending, so that banks have fewer losses to absorb.

This short video – Booms, busts and the way between – explains the role of macro-prudential policy and the tools the Reserve Bank has to smooth out boom-bust cycles.

The Reserve Bank can implement macroprudential policy by requiring banks to get more funding (capital and/or liquidity) and/or by making borrowers more resilient.

The available macroprudential tools are:

  • the countercyclical capital buffer (CCB)
  • sectoral capital requirements (SCR)
  • adjustments to the minimum core funding ratio (CFR)
  • restrictions on high loan-to-value ratio (LVR) residential mortgage lending.

Capital and liquidity tools transmit directly to financial stability via bank balance sheets. Capital tools (the CCyB and SCR) do this by increasing the amount of capital that banks have available to absorb losses. Liquidity tools (the CFR) do this by reducing the vulnerability of banks to disruptions in funding markets. LVRs enhance the resilience of banks via household balance sheets, reducing the potential for large mortgage defaults and losses in the event of a significant correction in the housing market.

The Reserve Bank’s mandate for macroprudential policy stems from its legislative purpose of “promoting the maintenance of a sound and efficient financial system” (section 1A Reserve Bank of New Zealand Act 1989).

The powers to implement or adjust countercyclical capital buffers, the minimum core funding ratio, sectoral capital requirements and restrictions on loan-to-value ratios for residential lending are referred to under section 78 of the Reserve Bank of New Zealand Act.

Macroprudential tools are intended to be used when the Reserve Bank identifies heightened risks to the financial system.

If the Reserve Bank’s monitoring of the financial system identifies:

  • a lack of resilience in the financial system there could be a case for using a capital or liquidity tool, depending on the nature of the risk identified. Capital tools (the CCyB and SCR) can be used to increase the ability of banks to absorb losses. Liquidity tools (the CFR) can be used to reduce banks’ vulnerability to a disruption in funding markets. Requiring banks to build their capital and liquidity buffers during the upturn means the tools can be eased in the downturn to improve the ability of banks to continue lending, and not worsen the scale of the downturn.
  • risks related to excessive household credit and house price growth, LVRs can be used to increase the resilience of the financial system to an eventual downturn via household balance sheets. Also, tightening LVR restrictions is more effective than capital or liquidity tools at moderating the scale of a boom because it directly constrains the availability of credit.

Once the Reserve Bank has identified that a macroprudential policy response appears to be necessary, and the macroprudential tool it intends to use, it will consult on its policy proposal – present evidence from its monitoring of the financial system, explain how the proposal would contribute to financial stability, and gather feedback from the public, regulated entities and other stakeholders. The Reserve Bank consults with the Minister of Finance and the Treasury when it is actively considering a macroprudential intervention.

Choosing when to act – when to impose or reduce capital and liquidity buffers and/or LVRs – is difficult and requires judgement. The ‘Macroprudential policy framework’ sets out the principles and processes that underpin the use of macroprudential tools. In deciding whether to act, the Reserve Bank looks at a wide range of data and analysis relating to the probability of a correction in asset prices, banks’ lending standards, and measures of banks’ financial strength (their capital and liquidity positions). The Reserve Bank’s latest assessment of financial stability risks is published in the Financial Stability Report.

The following indicative notice periods for the imposition of macro-prudential requirements will apply, via banks’ conditions of registration.

Instrument Notice period
Countercycle capital buffers Up to twelve months
Sectoral capital requirements Up to three months
Adjustments to core funding ratio Up to six months
Restrictions on high-LVR housing lending At least two weeks

Macroprudential tools are not monetary policy tools. Macroprudential policy and monetary policy have distinct objectives – macroprudential policy is concerned with financial stability while monetary policy is primarily concerned with stability in consumer prices. The two interact and have implications for policy makers in each area, but the operation of policy in one area is expected to have small and unsystematic effects on the other.