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The Collateral Spread Puzzle: Why Do Repo Rates Often Exceed Unsecured Rates?

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  • Kjell G. Nyborg

    (University of Zurich - Department of Banking and Finance; Centre for Economic Policy Research (CEPR); Swiss Finance Institute)

Abstract

Repo rates frequently exceed unsecured interbank rates. This apparent anomaly occurs under different institutional structures, currencies, and tenors, often over prolonged periods. I develop a theory of liquidity sourcing and provisioning under constraints that results in a trilateral linkage between unsecured and repo rates and the rate of return of the underlying collateral in the cash market. The model incorporates what differentiates repos from plain collateralized loans, namely, that cash providers get the collateral for the duration of the contract. The collateral spread (unsecured minus repo) emerges as a measure of stress. Negative spreads are symptoms of highly stressed markets.

Suggested Citation

  • Kjell G. Nyborg, 2024. "The Collateral Spread Puzzle: Why Do Repo Rates Often Exceed Unsecured Rates?," Swiss Finance Institute Research Paper Series 24-37, Swiss Finance Institute.
    • Handle: RePEc:chf:rpseri:rp2437
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    More about this item

    Keywords

    liquidity; repo; collateral spread; trilateral linkage; liquidity premium; general collateral; financial stress;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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