We take a macroprudential approach to analyze the optimal lending policy for the central bank, focusing on externalities that policy imposes on markets. Lending against high-quality collateral protects central banks against losses, but can adversely aect liquidity creation in markets since high-quality collateral gets locked up with the central bank rather than circulating in markets. Lending against low-quality collateral creates counterparty risk but can improve liquidity in markets. We characterize the optimal policy incorporating these trade-os. We show that, contrary to what is generally accepted, lending against high-quality collateral can have negative eects, whereas it may be optimal to lend against low-quality collateral.