Dealer Illiquidity
Brief description
Safe and liquid assets like Treasuries are not a cash substitute. However, dealer banks may transform Treasuries into a money-like financial asset, i.e., a repurchase agreement collateralized with Treasuries. The ratio of Treasuries useable as repo collateral by dealer banks over demand for money-like financial assets by institutional investors is a statistically and economically significant determinant of spreads in both money and bond markets beyond conventional determinants. The ratio captures a risk premium for the illiquidity of the dealer system that is due to the time-varying market liquidity of repo collateral.