Monetary and macroprudential policy with foreign currency loans

By Michał Brzoza-Brzezina, Marcin Kolasa and Krzysztof Makarski

In a number of countries a substantial proportion of mortgage loans is denominated in foreign currency. In this paper we demonstrate how their presence affects economic policy and agents’ welfare. To this end we construct a small open economy model with housing loans denominated in domestic or foreign currency. The model is calibrated for Poland – a typical small open economy with a large share of foreign currency loans (FCL). We show that FCLs negatively affect the transmission of monetary policy. In contrast, their impact on the effectiveness of macroprudential policy is much weaker but positive. We also demonstrate that FCLs increase welfare when domestic interest rate shocks prevail and decrease it when risk premium (exchange rate) shocks dominate. Under a realistic calibration of the stochastic environment FCLs are welfare reducing. Finally, we show that regulatory policies that correct the share of FCLs may cause a short term slowdown

The model is calibrated to Poland for a good reason: a third of all mortgages are denominated in Swiss Francs, which amounts to 8% of GDP. So when the Swiss Franc appreciated by 23% within a day, this must be leaving some marks in the Polish economy. And the possibility of such shocks is important for policy, as this paper nicely shows. However, I do not think that Polish borrowers we aware of such exchange rate risks when they opted for low interest Swiss Franc mortgages.

[And sorry for the long hiatus. I will be catching up over the next days]


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