Working Paper: CEPR ID: DP15569
Authors: Gino Cenedese; Pasquale Della Corte; Tianyu Wang
Abstract: We find dealer-level evidence that recent regulation on the leverage ratio requirement causes deviations from covered interest parity. Our analysis uses a unique dataset of currency derivatives with disclosed counterparty identities together with exogenous variation introduced by the UK leverage ratio framework. Dealers that are affected by the regulatory shock charge an additional premium of about 20 basis points per annum for synthetic dollar funding relative to unaffected dealers. This finding holds even after controlling for changes in clients' demand. Also, some clients increase their trading activity with unaffected dealers with whom they already had a pre-existing relationship.
Keywords: exchange rates; dollar basis; covered interest parity condition; arbitrage opportunities
JEL Codes: F31; G12; G15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| UK leverage ratio framework introduced in January 2016 (F65) | affected dealer banks charge an additional premium for synthetic dollar funding (F33) |
| UK leverage ratio framework introduced in January 2016 (F65) | widening of the dollar basis for clients borrowing dollars from affected dealers (F65) |
| clients with preexisting relationships with unaffected dealers (L14) | increase their trading activity with these dealers (G24) |
| leverage ratio requirement (G32) | affected dealers charge a higher premium for clients borrowing synthetic dollars (G19) |
| leverage ratio requirement (G32) | no significant premium for clients lending synthetic dollars (G19) |