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Cross-currency transmission of money market tensions

Author

Listed:
  • Kei Imakubo

    (Bank of Japan)

  • Takeshi Kimura

    (Bank of Japan)

  • Teppei Nagano

    (Bank of Japan)

Abstract

Funding conditions in global money markets have tightened since August 2007. In various currency-denominated money markets, term funding rates have come under upward pressure because of heightened concerns about counterparty credit and liquidity risks. Although the magnitude of upward pressure on interbank rates has differed across markets, the direction of its movements has followed a similar pattern. In this Review, using a vector autoregression model, we analyze the cross-currency transmission mechanism of term funding premia across the US dollar, euro, and Japanese yen markets. We find that the increased volatility in these markets results from not only changes in the variances of shocks impacting the market but also changes in the structure of the market. Under heightened uncertainty about US dollar funding, the interdependent relationship across these markets has strengthened via cross-market rebalancing activities of risk-averse financial institutions. In addition, market liquidity of the foreign exchange (FX) swap deteriorated after August 2007, which made it difficult for FX swap markets to mitigate the dislocation of US dollar liquidity. As a result, shocks for US dollar funding were not efficiently absorbed in global money markets, and the FX swap implied dollar rates from euro and yen were under persistent upward pressure. This strain in the FX swap markets was then fed back into the unsecured US dollar market, leading to further upward pressure on US dollar interbank rates.

Suggested Citation

  • Kei Imakubo & Takeshi Kimura & Teppei Nagano, 2008. "Cross-currency transmission of money market tensions," Bank of Japan Review Series 08-E-2, Bank of Japan.
    • Handle: RePEc:boj:bojrev:08-e-2
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    Cited by:

    1. Jutasompakorn, Pearpilai & Brooks, Robert & Brown, Christine & Treepongkaruna, Sirimon, 2014. "Banking crises: Identifying dates and determinants," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 32(C), pages 150-166.
    2. Cottrell, Simon & Yu, Xiao & Delpachitra, Sarath & Ma, Yihong, 2021. "What determines wholesale funding costs of the global systemically important banks?," Journal of Banking & Finance, Elsevier, vol. 132(C).
    3. Laurence Fung & Ip-wing Yu, 2011. "Dislocations in the FX swap and money markets in Hong Kong SAR during the global credit crisis of 2007-08," BIS Papers chapters, in: Bank for International Settlements (ed.), The global crisis and financial intermediation in emerging market economies, volume 54, pages 181-193, Bank for International Settlements.
    4. Chew Lian Chua & Sandy Suardi & Yuanchen Chang, 2017. "A re-examination of Libor rigging: a time-varying cointegration perspective," Quantitative Finance, Taylor & Francis Journals, vol. 17(9), pages 1367-1386, September.
    5. Ji, Philip Inyeob & In, Francis, 2010. "The impact of the global financial crisis on the cross-currency linkage of LIBOR-OIS spreads," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 20(5), pages 575-589, December.
    6. Ji, Philip Inyeob, 2012. "Time-varying financial stress linkages: Evidence from the LIBOR-OIS spreads," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 22(4), pages 647-657.
    7. Wong, Alfred, 2019. "Currency jumps, Euribor-OIS spreads and the volatility skew: A study on the dollar-euro crash risk of 2007–2015," Finance Research Letters, Elsevier, vol. 29(C), pages 7-16.
    8. Laurence Fung & Ip-wing Yu, 2009. "A Study on the Transmission of Money Market Tensions in EMEAP Economies During the Credit Crisis of 2007 - 2008," Working Papers 0909, Hong Kong Monetary Authority.
    9. Tamakoshi, Go & Hamori, Shigeyuki, 2014. "On cross-currency transmissions between US dollar and euro LIBOR-OIS spreads," Research in International Business and Finance, Elsevier, vol. 30(C), pages 83-90.
    10. Financial Markets Department, 2009. "Central Bank Responses to the Money Market Turmoil Stemming from Subprime Woes: Review of the Initial Phase from August 2007 until July 2008," Bank of Japan Research Papers 2009-03-27, Bank of Japan.
    11. Cui, Jin & In, Francis & Maharaj, Elizabeth Ann, 2016. "What drives the Libor–OIS spread? Evidence from five major currency Libor–OIS spreads," International Review of Economics & Finance, Elsevier, vol. 45(C), pages 358-375.

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