Download this Paper Open PDF in Browser

The (Unintended?) Consequences of the Largest Liquidity Injection Ever

58 Pages Posted: 9 Feb 2017  

Matteo Crosignani

Board of Governors of the Federal Reserve System

Miguel Faria-e-Castro

Federal Reserve Bank of St. Louis

Luís Fonseca

London Business School - Department of Economics

Multiple version iconThere are 2 versions of this paper

Date Written: January 1, 2017

Abstract

We study the design of lender of last resort interventions and show that the provision of long-term liquidity incentivizes purchases of high-yield short-term securities by banks. Using a unique security-level data set, we find that the European Central Bank's three-year Long-Term Refinancing Operation incentivized Portuguese banks to purchase short-term domestic government bonds that could be pledged to obtain central bank liquidity. This "collateral trade" effect is large, as banks purchased short-term bonds equivalent to 8.4% of amount outstanding. The resumption of public debt issuance is consistent with a strategic reaction of the debt agency to the observed yield curve steepening.

Keywords: Lender of Last Resort, Sovereign Debt, Unconventional Monetary Policy

JEL Classification: E58, G21, G28, H63

Suggested Citation

Crosignani, Matteo and Faria-e-Castro, Miguel and Fonseca, Luís, The (Unintended?) Consequences of the Largest Liquidity Injection Ever (January 1, 2017). FEDS Working Paper No. 2017-011. Available at SSRN: https://ssrn.com/abstract=2914145 or http://dx.doi.org/10.17016/FEDS.2017.011

Matteo Crosignani (Contact Author)

Board of Governors of the Federal Reserve System ( email )

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

Miguel Faria-e-Castro

Federal Reserve Bank of St. Louis ( email )

411 Locust St
Saint Louis, MO 63011
United States

Luís Fonseca

London Business School - Department of Economics ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom

Paper statistics

Downloads
23
Abstract Views
202