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A black swan in the money market

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  • John B. Taylor
  • John C. Williams

Abstract

The recent financial crisis saw a dramatic and persistent jump in interest rate spreads between overnight federal funds and longer-term interbank loans. The Fed took several actions to reduce these spreads, including the creation of the Term Auction Facility (TAF). The effectiveness of these policies depends on the cause of the increased spreads—whether counterparty risk, liquidity, or other factors. Using a no-arbitrage pricing framework and various measures of risk, we find robust evidence that increased a counterparty risk contributed to the rise in spreads, but do not find robust evidence that the TAF had a significant effect on spreads.

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Bibliographic Info

Article provided by Federal Reserve Bank of San Francisco in its journal Proceedings.

Volume (Year): (2009)
Issue (Month): Jan ()
Pages:

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Handle: RePEc:fip:fedfpr:y:2009:i:jan:x:2

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Keywords: Interest rates ; Monetary policy;

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  1. Andrew Ang & Monika Piazzesi, 2001. "A No-Arbitrage Vector Autoregression of Term Structure Dynamics with Macroeconomic and Latent Variables," NBER Working Papers 8363, National Bureau of Economic Research, Inc.
  2. Covrig, Vicentiu & Low, Buen Sin & Melvin, Michael, 2004. "A Yen is Not a Yen: TIBOR/LIBOR and the Determinants of the Japan Premium," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 39(01), pages 193-208, March.
  3. Anderson, Richard G & Rasche, Robert H, 1982. "What Do Money Market Models Tell Us about How to Implement Monetary Policy?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 14(4), pages 796-828, November.
  4. Peek, Joe & Rosengren, Eric S., 2001. "Determinants of the Japan premium: actions speak louder than words," Journal of International Economics, Elsevier, vol. 53(2), pages 283-305, April.
  5. John P. Judd & John L. Scadding, 1982. "What do money market models tell us about how to implement monetary policy: reply," Working Papers in Applied Economic Theory 108, Federal Reserve Bank of San Francisco.
  6. Vasco Cúrdia & Michael Woodford, 2008. "Credit frictions and optimal monetary policy," Working Paper Research 146, National Bank of Belgium.
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