The RBA and financial stability

Be a cleaner, not a leaner

The forthcoming Statement on the Conduct of Monetary Policy between the RBA Governor and the Board will need to address the relationship between financial stability and monetary policy. The RBA Review made a number of recommendations in this regard, informed in part by Anil Kashyap’s paper for the Review, ‘Monetary Policy and Financial Stability: Governance Design Considerations.’ This is an opportune time to review Kashyap’s paper, which will complete my review of the RBA Review research papers. But first, we should consider where we are and how we got here.

Financial stability did not rate a mention in the first four Statements on the Conduct of Monetary Policy between 1996 and 2010. The 2010 Statement was the first following the 2008 financial crisis and it is hardly surprising that financial stability would be elevated as a consideration for the conduct of monetary policy in the aftermath of that event.

The formulation adopted in 2010 noted that ‘Financial stability is a longstanding responsibility of the Reserve Bank and its Board and was reconfirmed at the time of significant changes made to Australia's financial regulatory structure in July 1998.’ That is a reference to the APRA Act, which assigned the RBA’s former responsibilities for prudential regulation to APRA in line with the 1997 Wallis inquiry’s recommendations (a recommendation the RBA resisted at the time).

As it happens, the only reference to the RBA’s role in financial stability to come out of that institutional overhaul was a brief mention in the second reading speech to the APRA Act, which referred to the RBA retaining responsibility for financial stability alongside its role as the payments system regulator. This is as close as the RBA has come to having an explicit mandate for financial stability. That is not to deny the reality that the RBA has always had a role in financial stability, just to point out that the statutory basis for that role has fallen short of both institutional reality and practice. The 2010 Statement just sought to make this role more explicit.