How Should Credit Gaps be Measured? An Application to European Countries

42 Pages Posted: 28 Feb 2020

See all articles by Chikako Baba

Chikako Baba

International Monetary Fund (IMF)

Salvatore Dell'Erba

International Monetary Fund (IMF)

Enrica Detragiache

International Monetary Fund (IMF) - European Department

Olamide Harrison

International Monetary Fund (IMF)

Aiko Mineshima

International Monetary Fund (IMF)

Anvar Musayev

International Monetary Fund (IMF)

Asghar Shahmoradi

University of Calgary - Department of Economics; International Monetary Fund (IMF)

Date Written: January 2020

Abstract

Assessing when credit is excessive is important to understand macro-financial vulnerabilities and guide macroprudential policy. The Basel Credit Gap (BCG) - the deviation of the credit-to-GDP ratio from its long-term trend estimated with a one-sided Hodrick-Prescott (HP) filter - is the indicator preferred by the Basel Committee because of its good performance as an early warning of banking crises. However, for a number of European countries this indicator implausibly suggests that credit should go back to its level at the peak of the boom after the credit cycle turns, resulting in large negative gaps that might delay the activation of macroprudential policies. We explore two different approaches - a multivariate filter based on economic theory and a fundamentals-based panel regression. Each approach has pros and cons, but they both provide a useful complement to the BCG in assessing macro-financial vulnerabilities in Europe.

Keywords: Real interest rates, Interest rate policy, Credit booms, Credit expansion, Credit aggregates, Credit Cycle, Credit Gap, Countercyclical Capital Buffer, Macroprudential Policies, WP, BCG, real interest rate, output gap, fundamental variable

JEL Classification: C33, C51, E52, E44, E51, G20, G28, E32, E01, G21,

Suggested Citation

Baba, Chikako and Dell'Erba, Salvatore and Detragiache, Enrica and Harrison, Olamide and Mineshima, Aiko and Musayev, Anvar and Shahmoradi, Asghar, How Should Credit Gaps be Measured? An Application to European Countries (January 2020). IMF Working Paper No. 20/6, Available at SSRN: https://ssrn.com/abstract=3545294

Chikako Baba (Contact Author)

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Salvatore Dell'Erba

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Enrica Detragiache

International Monetary Fund (IMF) - European Department ( email )

700 19th Street NW
Washington, DC 20431
United States

Olamide Harrison

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Aiko Mineshima

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Anvar Musayev

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Asghar Shahmoradi

University of Calgary - Department of Economics ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

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