Working Paper: CEPR ID: DP16439
Authors: Stephan Jank; Emanuel Moench; Michael Schneider
Abstract: Quantitative easing contributes to safe asset scarcity and repo market specialness. We show that banks respond to scarcity induced by Eurosystem bond purchases by increasing their reuse of these bonds as collateral. While reuse is low, additional reuse dampens scarcity effects. However, repo rates become increasingly sensitive to asset purchases when reuse is high. Elevated reuse also impairs market functioning: it leads to more failures to deliver specific bonds, a higher volatility of repo rates and more pronounced mispricing in the cash bond market. Our results highlight a trade-off between the shock absorption and shock amplification effects of collateral reuse.
Keywords: safe assets; government bonds; collateral reuse; rehypothecation; repo market; securities lending
JEL Codes: E4; E5; G1; G2
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| eurosystem asset purchases (E52) | banks' reuse of sovereign bonds (F34) |
| banks' reuse of sovereign bonds (F34) | repo rates' sensitivity to asset purchases (E43) |
| banks' reuse of sovereign bonds (F34) | probability of fails (C46) |
| banks' reuse of sovereign bonds (F34) | repo market volatility (E43) |
| increased reuse of collateral (G33) | failures to deliver and repo rate volatility (E44) |
| high levels of collateral reuse (G33) | financial instability (F65) |