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On the Existence and Fragility of Repo Markets

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  • Hajime Tomura

Abstract

This paper presents a model of an over-the-counter bond market in which bond dealers and cash investors arrange repurchase agreements (repos) endogenously. If cash investors buy bonds to store their cash, then they suffer an endogenous bond-liquidation cost because they must sell their bonds before the scheduled times of their cash payments. This cost provides incentive for both dealers and cash investors to arrange repos with endogenous margins. As part of multiple equilibria, the bond-liquidation cost also gives rise to another equilibrium in which cash investors stop transacting with dealers all at once. Credit market interventions block this equilibrium.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 12-17.

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Length: 50 pages
Date of creation: 2012
Date of revision:
Handle: RePEc:bca:bocawp:12-17

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Keywords: Financial markets; Financial stability; Payment; clearing; and settlement systems;

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  1. Oliver Hart & John Moore, 1995. "A Theory of Debt Based on the Inalienability of Human Capital," NBER Working Papers 3906, National Bureau of Economic Research, Inc.
  2. Glosten, Lawrence R. & Milgrom, Paul R., 1985. "Bid, ask and transaction prices in a specialist market with heterogeneously informed traders," Journal of Financial Economics, Elsevier, vol. 14(1), pages 71-100, March.
  3. Michael J. Fleming & Bruce Mizrach, 2009. "The microstructure of a U.S. Treasury ECN: the BrokerTec platform," Staff Reports 381, Federal Reserve Bank of New York.
  4. Kiyotaki, Nobuhiro & Moore, John, 1997. "Credit Cycles," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 211-48, April.
  5. Ho, Thomas & Stoll, Hans R., 1981. "Optimal dealer pricing under transactions and return uncertainty," Journal of Financial Economics, Elsevier, vol. 9(1), pages 47-73, March.
  6. Michael J. Fleming & Kenneth D. Garbade, 2005. "Explaining settlement fails," Current Issues in Economics and Finance, Federal Reserve Bank of New York, issue Sep.
  7. Huang, Roger D. & Cai, Jun & Wang, Xiaozu, 2002. "Information-Based Trading in the Treasury Note Interdealer Broker Market," Journal of Financial Intermediation, Elsevier, vol. 11(3), pages 269-296, July.
  8. Adam Copeland & Antoine Martin & Michael Walker, 2010. "The tri-party repo market before the 2010 reforms," Staff Reports 477, Federal Reserve Bank of New York.
  9. Jianjun Miao, 2005. "A Search Model of Centralzied and Decentralized Trade," Boston University - Department of Economics - The Institute for Economic Development Working Papers Series dp-144, Boston University - Department of Economics.
  10. Garman, Mark B., 1976. "Market microstructure," Journal of Financial Economics, Elsevier, vol. 3(3), pages 257-275, June.
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