Optimal interventions on strategic fails in repo markets

Fukai, Hiroki (2021): Optimal interventions on strategic fails in repo markets.

Abstract

A search theoretic model of repurchase agreements is constructed wherein the sellers' incentives to fail to deliver securities are explicitly incorporated. In equilibrium, too many sellers choose to fail relative to the social optimum. Two types of interventions are studied: a fails charge and an interest reset. These interventions improve efficiency by lowering the fraction of sellers who fail and making it easier for buyers to find their counterparties. In extensions of the model, the two types of optimal interventions are differently affected by fundamental variables. Thus, a policymaker needs to carefully distinguish between the workings of the two.

• Item Type: MPRA Paper
• Language: English
• Keywords: fails charge; over-the-counter market; repo interest; repo market
• Subjects: D - Microeconomics > D5 - General Equilibrium and Disequilibrium > D53 - Financial Markets; G - Financial Economics > G0 - General > G01 - Financial Crises; G - Financial Economics > G1 - General Financial Markets > G18 - Government Policy and Regulation

References

Antinolfi, Gaetano, Francesca Carapella, Charles M. Kahn, Antoine Martin, David C. Mills, Jr., and Ed Nosal (2015) ``Repos, Fire Sales, and Bankruptcy Policy,'' Review of Economic Dynamics 18, pp. 21--31.

Bottazi, Jean-Marc, Jaime Luque, and Mario R. Pascoa (2012) ``Securities Market Theory: Possession, Repo and Rehypothecation,'' Journal of Economic Theory 147, pp. 477--500.

Choudhry, Moorad (2010) The Repo Handbook, 2nd ed., Butterworth-Heinemann, Oxford, United Kingdom.

Copeland, Adam, Antoine Martin, and Michael Walker (2014) ``Repo Runs: Evidence from the Tri-Party Repo Market,'' Journal of Finance 6, pp. 2343--2380.

Donaldson, Jason Roderick, and Eva Micheler (2018) ``Resaleable Debt and Systemic Risk,'' Journal of Financial Economics 127, pp. 485--504.

Duffie, Darrell, Nicolae Garleanu, and Lasse H. Pedersen (2007) ``Valuation in Over-the-Counter Markets,'' Review of Financial Studies 20, pp. 1865--1900.

Fleming, Michael J., and Kenneth D. Garbade (2002) ``When the Back Office Moved to the Front Burner: Settlement Fails in the Treasury Market after 9/11,'' Economic Policy Review 8, pp. 35--57.

Fleming, Michael J., and Kenneth D. Garbade (2004) ``Repurchase Agreements with Negative Interest Rates,'' Current Issues in Economics and Finance 10, pp. 1--7.

Fleming, Michael J., and Kenneth D. Garbade (2005) ``Explaining Settlement Fails,'' Current Issues in Economics and Finance 11, pp. 1--7.

Garbade, Kenneth D., Frank M. Keane, Lorie Logan, Amanda Stokes, and Jennifer Wolgemuth (2010) ``The Introduction of the TMPG Fails Charge for U.S. Treasury Securities,'' Economic Policy Review 16, pp. 45--71.

Garbade, Kenneth D., and Frank M. Keane (2017) ``The Treasury Market Practices Group: Creation and Early Initiatives,'' Federal Reserve Bank of New York Staff Reports No. 822.

Gorton, Gary, and Andrew Metrick (2012) ``Securitized Banking and the Run on Repo,'' Journal of Financial Economics 104, pp. 425--451.

Gorton, Gary, Andrew Metrick, and Chase P. Ross (2020) ``Who Ran on Repo?'' AEA Papers and Proceedings 110, pp. 487--492.

Gottardi, Piero, Vincent Maurin, and Cyril Monnet (2019) ``A Theory of Repurchase Agreements, Collateral Re-Use, and Repo Intermediation,'' Review of Economic Dynamics 33, pp. 30--56.

Infante, Sebastian (2019) ``Liquidity Windfalls: The Consequences of Repo Rehypothecation,'' Journal of Financial Economics 133, pp. 42--63.

International Capital Market Association (2013) ``2011 Global Master Repurchase Agreement,'' June 2013.

International Capital Market Association (2020) ``A Guide to Best Practice in the European Repo Market,'' September 2020.

Kalai, Ehud (1977) ``Proportional Solutions to Bargaining Situations: Interpersonal Utility Comparisons,'' Econometrica 45, pp. 1623--1630.

Krishnamurthy, Arvind, Stefan Nagel, and Dmitry Orlov (2014) ``Sizing Up Repo,'' Journal of Finance 69, pp. 2381--2417.

Martynova, Natalya, Lev Ratnovski, and Razvan Vlahu (2020) ``Bank Profitability, Leverage Constraints, and Risk-Taking,'' Journal of Financial Intermediation 44, pp. 1--19.

Nuno, Galo, and Carlos Thomas (2017) ``Bank Leverage Cycles,'' American Economic Journal: Macroeconomics 9, pp. 32--72.

Park, Hyejin, and Charles M. Kahn (2019) ``Collateral, Rehypothecation, and Efficiency,'' Journal of Financial Intermediation 39, pp. 34--46.

Tomura, Hajime (2016) ``Investment Horizon and Repo in the Over-the-Counter Market,'' Journal of Money, Credit and Banking 48, pp. 145--164.

Trejos, Alberto, and Randall Wright (2016) ``Search-Based Models of Money and Finance: An Integrated Approach,'' Journal of Economic Theory 164, pp. 10--31.

Valderrama, Laura (2015) ``Macroprudential Regulation under Repo Funding,'' Journal of Financial Intermediation 24, pp. 178--199.

Vayanos, Dimitri, and Pierre-Olivier Weill (2008) ``A Search-Based Theory of the On-the-Run Phenomenon,'' Journal of Finance 63, pp. 1361--1398.