Financial Stress and Equilibrium Dynamics in Money Markets

41 Pages Posted: 17 Oct 2015

See all articles by Emre Yoldas

Emre Yoldas

Board of Governors of the Federal Reserve System

Zeynep Senyuz

Board of Governors of the Federal Reserve System

Date Written: October 15, 2015

Abstract

Interest rate spreads are widely-used indicators of funding pressures and market functioning in money markets. Using weekly data from 2002 to 2015, we analyze money market dynamics in a long-run equilibrium framework where commonly-monitored spreads serve as error correction terms. We find strong evidence for nonlinearities with respect to levels of the spreads. We provide point and interval estimates for spread thresholds that quantify funding pressure points from a long-run perspective. Our results indicate significant asymmetry in the adjustment toward long-run equilibrium. We show that economically and statistically significant adjustments occur only following large shocks to risk premia. Additionally, we quantify shifts in interest rate volatilities in high spread regimes characterized by elevated funding stress as well as declining correlations between risky funding rates and relatively safe base rates in such environments.

Keywords: Cointegration, Constant conditional correlation model, GARCH, Money markets, Threshold models

JEL Classification: C32, E44, E52

Suggested Citation

Yoldas, Emre and Senyuz, Zeynep, Financial Stress and Equilibrium Dynamics in Money Markets (October 15, 2015). FEDS Working Paper No. 2015-091, Available at SSRN: https://ssrn.com/abstract=2674605 or http://dx.doi.org/10.2139/ssrn.2674605

Emre Yoldas (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Zeynep Senyuz

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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