(In)efficient repo markets
68 Pages Posted: 8 Feb 2021 Last revised: 9 Feb 2021
Date Written: February 4, 2021
Repo markets trade off the efficient allocation of liquidity in the financial sector with resilience to funding shocks. The repo trading and clearing mechanisms are crucial determinants of the allocation-resilience tradeoff. The two common mechanisms, anonymous central-counterparty (CCP) and non-anonymous over-the-counter (OTC) markets, are inefficient and their welfare rankings depend on funding tightness. CCP (OTC) markets inefficiently liquidate high (low) quality assets for large (small) funding shocks. Two innovations to repo market design contribute to maximize welfare: a liquidity-contingent trading mechanism and a two-tiered guarantee fund.
Keywords: repo market, funding run, financial stability, asymmetric information, central clearing, novation, guarantee fund, collateral
JEL Classification: G01, G14, G21, G28
Suggested Citation: Suggested Citation