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The liquidity state-dependence of monetary policy transmission

Author

Listed:
  • Guimaraes, Rodrigo

    (Bank of England)

  • Pinter, Gabor

    (Bank of England)

  • Wijnandts, Jean-Charles

    (Bank of England)

Abstract

The large reactions of long-term government bond yields to monetary policy shocks occur during periods of higher market liquidity, and there is very little reaction during periods of lower liquidity. This newly documented liquidity state-dependence persistently affects real yields, term premia as well as long-term mortgage rates. Balance sheet constraints on both hedge funds and dealers contribute to the liquidity state-dependence. Conditioning on market liquidity yields stronger state-dependence than simply conditioning on macroeconomic indicators. Our results underscore the importance of market functioning, and the financial health of key intermediaries that support it, for implementing stabilisation policies.

Suggested Citation

  • Guimaraes, Rodrigo & Pinter, Gabor & Wijnandts, Jean-Charles, 2023. "The liquidity state-dependence of monetary policy transmission," Bank of England working papers 1045, Bank of England.
    • Handle: RePEc:boe:boeewp:1045
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    More about this item

    Keywords

    Monetary Policy Shocks; Market Liquidity; Real Term Premium; Intermediary Asset Pricing.;
    All these keywords.

    JEL classification:

    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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