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Trade Dynamics in the Market for Federal Funds

  • Ricardo Lagos

    (New York University)

  • Gara Afonso

    (Federal Reserve Bank of New York)

We develop a search model of the federal funds market and show that, at each point along the trading session, rates are increasing in the penalty for reserve deficiencies, decreasing in the borrower's bargaining power, and when there are more (less) lenders than borrowers, also decreasing (increasing) in the frequency of meetings. We also study the conditions that shape the time path of the fed funds rate throughout a trading session, and identify the factors that can cause rates to rise or to fall with the time remaining until the end of the trading day.

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Paper provided by Society for Economic Dynamics in its series 2010 Meeting Papers with number 424.

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Date of creation: 2010
Date of revision:
Handle: RePEc:red:sed010:424
Contact details of provider: Postal: Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA
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  1. Huberto M. Ennis & Alexander L. Wolman, 2010. "Excess reserves and the new challenges for monetary policy," Richmond Fed Economic Brief, Federal Reserve Bank of Richmond, issue Mar.
  2. Huberto M. Ennis & John A. Weinberg, 2010. "Over-the-counter loans, adverse selection, and stigma in the interbank market," Working Paper 10-07, Federal Reserve Bank of Richmond.
  3. 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.
  4. Todd Keister & Antoine Martin & James J. McAndrews, 2008. "Divorcing money from monetary policy," Economic Policy Review, Federal Reserve Bank of New York, issue Sep, pages 41-56.
  5. Guillaume Rocheteau & Ricardo Lagos, 2008. "Liquidity in asset markets with search frictions," Working Paper 0804, Federal Reserve Bank of Cleveland.
  6. Paul Bennett & R. Spence Hilton, 1997. "Falling reserve balances and the federal funds rate," Current Issues in Economics and Finance, Federal Reserve Bank of New York, vol. 3(May).
  7. Lagos, Ricardo, 2010. "Asset prices and liquidity in an exchange economy," Journal of Monetary Economics, Elsevier, vol. 57(8), pages 913-930, November.
  8. Ricardo Lagos & Guillaume Rocheteau & Pierre-Olivier Weill, 2008. "Crashes and Recoveries in Illiquid Markets," NBER Working Papers 14119, National Bureau of Economic Research, Inc.
  9. Pierre-Olivier Weill, 2004. "Liquidity Premia in Dynamic Bargaining Markets," Econometric Society 2004 North American Winter Meetings 648, Econometric Society.
  10. Viral V. Acharya & Ouarda Merrouche, 2010. "Precautionary Hoarding of Liquidity and Inter-Bank Markets: Evidence from the Sub-prime Crisis," NBER Working Papers 16395, National Bureau of Economic Research, Inc.
  11. Dimitri Vayanos & Pierre-Olivier Weill, 2007. "A search-based theory of the on-the-run phenomenon," LSE Research Online Documents on Economics 24474, London School of Economics and Political Science, LSE Library.
  12. Ricardo Lagos & Guillaume Rocheteau, 2006. "Search in asset markets," Working Paper 0607, Federal Reserve Bank of Cleveland.
  13. Todd Keister & James J. McAndrews, 2009. "Why are banks holding so many excess reserves?," Current Issues in Economics and Finance, Federal Reserve Bank of New York, vol. 15(Dec).
  14. Christian Gilles & Pamela A. Labadie & Wilbur John Coleman II., 1996. "A model of the federal funds market," Economic Theory, Springer, vol. 7(2), pages 337-357.
  15. Dimitri Vayanos & Tan Wang, 2004. "Search and endogenous concentration of liquidity in asset markets," LSE Research Online Documents on Economics 455, London School of Economics and Political Science, LSE Library.
  16. Bech, Morten L. & Atalay, Enghin, 2010. "The topology of the federal funds market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 389(22), pages 5223-5246.
  17. Ricardo Lagos & Guillaume Rocheteau, 2007. "Search in Asset Markets: Market Structure, Liquidity, and Welfare," American Economic Review, American Economic Association, vol. 97(2), pages 198-202, May.
  18. William Poole, 1968. "Commercial Bank Reserve Management In A Stochastic Model: Implications For Monetary Policy," Journal of Finance, American Finance Association, vol. 23(5), pages 769-791, December.
  19. Hamilton, James D, 1996. "The Daily Market for Federal Funds," Journal of Political Economy, University of Chicago Press, vol. 104(1), pages 26-56, February.
  20. John Rust & George Hall, 2001. "Middle Men Versus Market Makers: A Theory of Competitive Exchange," Cowles Foundation Discussion Papers 1299, Cowles Foundation for Research in Economics, Yale University.
  21. Huberto M. Ennis & Todd Keister, 2008. "Understanding monetary policy implementation," Economic Quarterly, Federal Reserve Bank of Richmond, issue Sum, pages 235-263.
  22. Ann-Marie Meulendyke, 1998. "U.S. monetary policy and financial markets," Monograph, Federal Reserve Bank of New York, number 1998mpaf.
  23. Gara M. Afonso, 2008. "Liquidity and congestion," Staff Reports 349, Federal Reserve Bank of New York.
  24. Morten L. Bech & Elizabeth C. Klee, 2010. "The mechanics of a graceful exit: interest on reserves and segmentation in the federal funds market," Finance and Economics Discussion Series 2010-07, Board of Governors of the Federal Reserve System (U.S.).
  25. Ricardo Lagos, 2009. "Asset Prices, Liquidity, and Monetary Policy in an Exchange Economy," 2009 Meeting Papers 390, Society for Economic Dynamics.
  26. Gara M. Afonso & Anna Kovner & Antoinette Schoar, 2010. "Stressed, not frozen: the Federal Funds market in the financial crisis," Staff Reports 437, Federal Reserve Bank of New York.
  27. Spulber, Daniel F, 1996. "Market Making by Price-Setting Firms," Review of Economic Studies, Wiley Blackwell, vol. 63(4), pages 559-80, October.
  28. Pierre-Olivier Weill, 2004. "Leaning against the wind," 2004 Meeting Papers 382, Society for Economic Dynamics.
  29. Ricardo Lagos & Randall Wright, 2002. "A unified framework for monetary theory and policy analysis," Working Paper 0211, Federal Reserve Bank of Cleveland.
  30. Lagos, Ricardo, 2010. "Some results on the optimality and implementation of the Friedman rule in the Search Theory of Money," Journal of Economic Theory, Elsevier, vol. 145(4), pages 1508-1524, July.
  31. Gara Afonso & Anna Kovner & Antoinette Schoar, 2010. "Stressed not Frozen: The Fed Funds Market in the Financial Crisis," NBER Working Papers 15806, National Bureau of Economic Research, Inc.
  32. Adam B. Ashcraft & Darrell Duffie, 2007. "Systemic Illiquidity in the Federal Funds Market," American Economic Review, American Economic Association, vol. 97(2), pages 221-225, May.
  33. Ho, Thomas S Y & Saunders, Anthony, 1985. " A Micro Model of the Federal Funds Market," Journal of Finance, American Finance Association, vol. 40(3), pages 977-88, July.
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