Publications

In this paper, we adopt a dual micro-and-macro simulation strategy to assess the impact of introducing (or changing) the LTV limit. Due to the nature of borrower-based macroprudential measures, to assess this impact we need to use borrower-level micro data. Tightening (or loosening) the LTV limit increases the share of borrowers constrained by the policy measure in question; thus, the overall impact depends on initial market conditions. We find that the introduction of an LTV limit of 85 % in 2011 had a modest short-term impact on economic activity because the new regulatory limit was non-binding for most borrowers at the time. We estimate that if the LTV limit would not have been introduced, the household loan portfolio would have grown on average 1.5 percentage points faster per year (over 2012-2014). This would have led to a 0.5 percentage point higher housing price growth and a 0.2 percentage point higher real GDP growth. When the macroprudential LTV limit is binding for a significant portion of borrowers, lowering the LTV limit at current market conditions has a much more pronounced effect. We show that if the LTV limit had been implemented at the end of 2004, it would have substantially helped in tempering the credit and housing boom, albeit at the cost of lowering economic growth.

Keywords: Financial stability, Macroprudential policy, Borrower-based macroprudential policy instruments, LTV limit.

JEL Codes: C32, C53, E58, G28.

The views expressed are those of the author(s) and do not necessarily represent those of the Bank of Lithuania.

Recent evidence suggests that credit booms and asset price bubbles may undermine economic growth even as they occur, regardless of whether a crisis follows, by crowding out investment in more productive, R&D-intensive industries. This paper incorporates Schumpeterian endogenous growth into a DSGE model with credit-constrained entrepreneurs to show how shocks affecting firms' access to credit can generate boom-bust cycles featuring large fluctuations in land prices, consumption, and investment. During the expansion, rising land prices tend to crowd out capital and (especially) R&D investment: in the long run, this results in lower productivity levels, which in turn implies lower levels of aggregate output and consumption. Moreover, higher initial loan-to-value ratios tend to be associated with larger macroeconomic fluctuations. A counter-cyclical LTV ratio targeting credit growth has relevant stabilization effects but brings about small gains in terms of long-run consumption levels, and thus of welfare.

JEL Codes: E22, E32, E44, O30, O40.

The views expressed are those of the author(s) and do not necessarily represent those of the Bank of Lithuania.

Non-technical summary (26.5 KB download icon)

In this paper, we develop a two-country monetary union new Keynesian general equilibrium model with housing and collateral constraints, to be calibrated for Lithuania and the rest of the euro area. Within this setting, and following the recent entrance of Lithuania in the EMU, the aim of this paper is twofold. First, we study how shocks are transmitted differently in the two regions, considering the recent common monetary policy. Then, we analyze how macroprudential policies should be conducted in Lithuania, in the context of the EMU. As a macroprudential tool, we propose a decentralized Taylortype rule for the LTV which responds to national deviations in output and house prices. We find that, given the housing market features in Lithuania, common shocks are transmitted more strongly in this country than in the rest of the euro area. In terms of macroprudential policies, results show that the optimal policy in Lithuania with respect to the euro area may have a different intensity and that it delivers substantial benefits in terms of financial stability.

JEL Codes: E32, E44, F36.

The views expressed are those of the author(s) and do not necessarily represent those of the Bank of Lithuania.