The macroprudential approach to systemic risk

Abstract

The Global Financial Crisis (GFC) of 2008 unequivocally exposed the fatal insufficiency of microprudential supervision, which, by focusing solely on the resilience of individual institutions, failed to prevent systemic collapse. This article argues that the subsequent global adoption of macroprudential policy (MaPP) represents a fundamental and necessary paradigm shift in financial oversight. MaPP transcends the limitations of the "fallacy of composition" by adopting a holistic, system-wide approach, targeting vulnerabilities and mitigating the build-up of systemic risk through a rigorous policy cycle and macroprudential tools, including capital-based measures (e.g., CCyB) and borrower-based measures (e.g., LTV/DSTI ratios). While the macroprudential framework for the banking sector is mature, the system's resilience remains challenged by the non- bank financial intermediation (NBFI) sector (e.g., asset managers and insurers). The article concludes that the ongoing success of MaPP hinges on the complete integration of the NBFI sector into a cohesive, system-wide framework, which remains the critical, incomplete frontier of 21st-century financial supervision. This article is based on a lecture delivered by the authors as part of a course on financial services law at the University of Malta.