Macroeconomic and monetary policy issues raised by the growth of derivatives markets (Hannoun Report)

November 1994

Since the mid-1970s, the pace and nature of financial innovation have changed dramatically. Higher volatility of interest rates, experience with floating exchange rates, growing levels of indebtedness, and financial deregulation - especially the liberalisation of capital movements - all created a demand for financial innovation. Rapid advances in computer and communication technologies, along with developments in finance theory and increased trading in existing assets, made it possible to meet that demand. Although highly prominent, derivatives - including futures, swaps and options - are only one example of innovations that have altered financial market behaviour in recent years. In this light, derivatives can be seen more as a consequence than a cause of increased volatility in exchange rates and interest rates.

Derivatives fulfil specific economic functions that can influence the way individual economic agents and financial markets respond to monetaiy policy actions. However, there has been thus far no comprehensive shady of their macroeconomic and monetary policy implications. This report makes an effort in that direction. It is part of a broader undertaking by the Euro-currency Standing Committee of G-10 central banks to assess the implications of derivatives markets for central banks' monetary and macroprudential policy responsibilities, to increase transparency in derivatives markets, and to develop measures of their size and of the risks that are transferred in them.

The report has five chapters. The implications of the growing use of derivatives for the environment in which monetary policy is conducted are discussed in chapter one. Chapters two through four discuss, in turn, the possible impact of derivatives on the monetary transmission mechanism, on monetaiy policy indicators and on the operational instruments of central banks. Conclusions are offered in chapter five. A separately published compendium contains a number of annexes that elaborate on topics dealt with in the main body of the report. These annexes have been prepared by individual central banks who retain responsibility for their contents.

  • Compendium of annexes to the report on macroeconomic and monetary policy issues raised by the growth of derivatives markets (Hannoun Report)