Impact of macroprudential policy on economic growth in Indonesia: a growth-at-risk approach

Macroprudential policy yields important benefits in terms of preventing and mitigating systemic risk, but it can also have an impact on economic growth, particularly on the left tail of the growth distribution. In this context, policymakers need to consider the effects of macroprudential policies on the entire growth distribution, and not only on average growth. The growth-at-risk (GaR) approach represents a useful framework for such an assessment. This paper describes the use of the GaR method and illustrates its implementation for assessing the impact of macroprudential policy on GaR in Indonesia. As a first step, I select 26 macrofinancial variables that are relevant for the Indonesian economy and build three partitions that capture financial conditions, macrofinancial vulnerabilities and other relevant factors. Results from quantile regressions have important policy implications, suggesting that an early tightening of macroprudential policy would reduce downside risks to Indonesia's gross domestic product (GDP) growth by increasing the resilience of the financial system. Results further show that a materialization of risk, stemming from either a loosening of financial conditions, an increase of macrofinancial vulnerabilities or a deterioration of the macroeconomic environment have important effects on Indonesia's GDP growth distribution and particularly on the left tail of the distribution, which represents the GaR. Under each of these scenarios, a tightening or loosening of the macroprudential stance, depending on the underlying vulnerabilities, yields high benefits in terms of improving Indonesia's GaR, which range from 0.06 and 0.14 percentage points.