55 Pages Posted: 3 Aug 2015
Date Written: July 29, 2015
The financial architecture prior to the recent financial crisis was a system of mobile collateral. Safe debt, whether government bonds or privately-produced bonds, i.e., asset-backed securities, could be traded, posted as collateral, and rehypothecated, moving to its highest value use. Since the financial crisis, regulatory changes to the financial architecture have aimed to make collateral immobile, most notably with the BIS “liquidity coverage ratio” for banks. In the face of the Lucas critique, how should these policies be evaluated? We evaluate this immobile capital system with reference to a previous regime which had this feature: the U.S. National Banking Era. We find evidence that a system of immobile collateral contributes to scarcity of safe debt and encourages other forms of short term debt to emerge, possibly making the system riskier.
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