Discussion paper
DP16439 Safe asset scarcity, collateral reuse, and market functioning
Quantitative easing contributes to safe asset scarcity and repo market specialness. We show that banks respond to scarcity induced by Eurosystem bond purchases by increasing their reuse of these bonds as collateral. While reuse is low, additional reuse dampens scarcity effects. However, repo rates become increasingly sensitive to asset purchases when reuse is high. Elevated reuse also impairs market functioning: it leads to more failures to deliver specific bonds, a higher volatility of repo rates and more pronounced mispricing in the cash bond market. Our results highlight a trade-off between the shock absorption and shock amplification effects of collateral reuse.
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