The Risks of Safe Assets

73 Pages Posted: 27 Sep 2021

See all articles by Lukas Schmid

Lukas Schmid

University of Southern California - Marshall School of Business

Yang Liu

The University of Hong Kong - Faculty of Business and Economics

Amir Yaron

University of Pennsylvania -- Wharton School of Business; Bank of Israel; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: July 1, 2021

Abstract

How much safety and liquidity can the US government provide? Should it accommodate demand for these attributes because high convenience yields in Treasuries lower its borrowing cost? We evaluate a novel fiscal risk channel limiting the government's capacity to issue debt through the lens of a general equilibrium asset pricing model with a rich fiscal sector. Expanding safe asset supply lowers safety premia and improves liquidity in financial markets, but creates tax and consumption volatility, raising risk premia, credit spreads, and firms' cost of capital. Our model predicts that this risk channel leads to depressed growth prospects, rising Treasury yields, and elevated consumption risk, for which we find strong empirical evidence. We use our model to quantitatively evaluate current proposals on stimulus and stabilization packages and find that the risk channel is exacerbated in times of fiscal stress. Increasing safe asset supply can thus be risky, and have a significant fiscal cost.

Keywords: fiscal costs, Government Debt, risk premia, safe assets

JEL Classification: F0, G0

Suggested Citation

Schmid, Lukas and Liu, Yang and Yaron, Amir and Yaron, Amir, The Risks of Safe Assets (July 1, 2021). CEPR Discussion Paper No. DP16407, Available at SSRN: https://ssrn.com/abstract=3928686

Lukas Schmid (Contact Author)

University of Southern California - Marshall School of Business ( email )

701 Exposition Blvd, HOH 431
Los Angeles, CA California 90089-1424
United States

Yang Liu

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

Amir Yaron

Bank of Israel

P.O. Box 780
Jerusalem, 91907
Israel

University of Pennsylvania -- Wharton School of Business ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States
215-898-1241 (Phone)
215-898-6200 (Fax)

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
0
Abstract Views
228
PlumX Metrics