Securities Markets and Macroeconomic Outcomes

Paper Session

Saturday, Jan. 7, 2017 10:15 AM – 12:15 PM

Sheraton Grand Chicago, Chicago Ballroom VIII
Hosted By: American Finance Association
  • Chair: Philipp Schnabl, New York University

The Role of the Government Bond Lending Market in Collateral Transformation

Reena Aggarwal
,
Georgetown University
Jennie Bai
,
Georgetown University
Luc Laeven
,
European Central Bank

Abstract

The securities lending market for government bonds is an active short-term funding market which not only facilitates repo and cash markets, but also plays a unique role in transforming collateral from low-quality into high-quality liquid assets. We provide strong evidence of an increase in scarcity of safe assets and document the role of the securities lending market in collateral upgrading. During periods of market stress, lending fee increases significantly more for higher quality bonds, consistent with a flight-to-quality effect. In addition, borrowers increase the use of low-quality noncash collateral to upgrade to high-quality securities. Furthermore, there is increased usage of such borrowed securities to obtain cash in the repo market. This evidence is consistent with collateral upgrading in the lending market to obtain cash in the repo market. Finally, we show that central bank purchases of low-quality bonds mitigated disruptions in short-term funding markets by reducing fees of these lower quality bonds.

Macroeconomic Effects of Secondary Market Trading

Daniel Neuhann
,
University of Pennsylvania

Abstract

This paper develops a theory of credit cycles to account for recent evidence that capital is increasingly allocated to inefficiently risky projects during credit booms. The model features lenders who sell risky assets to less informed investors in order to relax collateral constraints. When asset prices are high, however, these lenders begin pro- ducing and selling inefficiently risky assets. Asset prices rise during booms because the buyers of risky assets grow wealthy when their risk-taking pay offs, triggering a decline in investment efficiency and an increase in aggregate risk exposure. I study conditions that give rise to credit cycles and consider policy implications.

Risk Taking and Low Longer-Term Interest Rates: Evidence From the United States Syndicated Loan Market

Sirio Aramonte
,
Federal Reserve Board
Seung Jung Lee
,
Federal Reserve Board
Viktors Stebunovs
,
Federal Reserve Board

Abstract

We use supervisory data to investigate the ex-ante credit risk taken by different types of lenders in the U.S. syndicated loan market when longer-term interest rates are low. We find that insurance companies, pension funds, and, especially, structured-finance vehicles take higher risk when interest rates decrease. Banks accommodate other lenders' investment choices by originating riskier loans and subsequently divesting them partly. These results are consistent with “search for yield” by certain nonbanks and, if Federal Reserve policies affected longer-term rates, with a risk-taking channel of monetary policy. Longer-term interest rates appear to have a modest effect on loan spreads.
Discussant(s)
Rustom M. Irani
,
University of Illinois-Urbana-Champaign
Guillaume Plantin
,
Carnegie Mellon University
Steven Ongena
,
University of Zurich
JEL Classifications
  • G2 - Financial Institutions and Services