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A black swan in the money market

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Abstract

The recent financial crisis saw a dramatic and persistent jump in interest rate spreads between overnight federal funds and longer-term interbank loans. The Fed took several actions to reduce these spreads, including the creation of the Term Auction Facility (TAF). The effectiveness of these policies depends on the cause of the increased spreads?whether counterparty risk, liquidity, or other factors. Using a no-arbitrage pricing framework and various measures of risk, we find robust evidence that increased a counterparty risk contributed to the rise in spreads, but do not find robust evidence that the TAF had a significant effect on spreads.

Suggested Citation

  • John B. Taylor & John C. Williams, 2009. "A black swan in the money market," Proceedings, Federal Reserve Bank of San Francisco, issue Jan.
    • Handle: RePEc:fip:fedfpr:y:2009:i:jan:x:2
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    References listed on IDEAS

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    1. Cúrdia, Vasco & Woodford, Michael, 2016. "Credit Frictions and Optimal Monetary Policy," Journal of Monetary Economics, Elsevier, vol. 84(C), pages 30-65.
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    More about this item

    Keywords

    Monetary policy; Interest rates;

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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