What Is Macroprudential Analysis?

Macroprudential analysis is a method of economic analysis that evaluates the health, soundness, and vulnerabilities of a financial system.

Key Takeaways

  • Macroprudential analysis is the study of the health, soundness, and vulnerabilities of a financial system to identify systemic risks.
  • This analysis involves looking at key macroeconomic data such as GDP growth, inflation, interest rates, exchange rates, asset prices, etc.
  • It also looks at the interconnectedness of financial system participants, and at how risks can be transmitted through the system via these financial linkages.

Understanding Macroprudential Analysis

Macroprudential analysis looks at the health of the underlying financial institutions in the system and performs stress tests and scenario analysis to help determine the system's sensitivity to economic shocks. Macroeconomic and market data are also reviewed to determine the health of the current system. The analysis also focuses on qualitative data related to financial institutions' frameworks and the regulatory environment to get an additional sense of the strength and vulnerabilities in the system.

When looking at the health of the underlying financial institutions in the system, macroprudential analysis uses indicators that provide data on the health of these institutions as a whole including capital adequacy, asset quality, management performance, profitability, liquidity, and sensitivity to systematic risks.

Macroeconomic data used include gross domestic product (GDP) growth, inflation, interest rates, balance of payments, exchange rates, asset prices, and the correlation of markets within the system.

Scenario analysis and stress tests are major components of this analysis. For example, the analysis may look at how the system would cope with a steadily declining currency value and its impact on GDP, interest rates, and underlying institution profitability.

Finally, macroprudential analysis looks at key components of the financial markets, including prevailing credit ratings and the yields and market prices of financial instruments.

Purpose of Macroprudential Analysis

Macroprudential analysis is designed to identify, well in advance, the risks to an operation or structure of financial institutions or markets. These risks are called systemic risks. At worst, the realization of such a risk could lead to financial crises and intensify the macroeconomic impact of such crises.

Risk may arise from credit cycles, built-in structural features, and vulnerabilities of the financial system, or from individual problems of specific financial institutions. Effective identification of risks requires continuous development of the macroprudential toolkit.

In addition to the identification of risks, a macroprudential analysis assesses the resilience of domestic and international financial institutions and financial market infrastructures to severe disruptions. The interconnectedness of various financial system participants is also a major target of such assessments, as the level of resilience a financial system has against the risks transmitted through these linkages.

Conducting Macroprudential Analyses

Typically, financial institutions will cooperate on executing a comprehensive macroprudential analysis. The Bank of Finland, for example, cooperates closely with the Finnish Financial Supervisory Authority and the country's Ministry of Finance in macroprudential risk analyses to establish the interlinkages between the real economy and the financial markets. It has deep experience and extensive competence in this type of research and cooperates closely with a number of other financial authorities on their macroprudential analyses, including the European Systemic Risk Board (ESRB).