Currency Development Through Liquidity Provision

Antonio Coppola, Arvind Krishnamurthy and Chenzi Xu

No 19894, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: Drawing on the experiences of the historical Eurodollar market and recent Chinese dollar bond issuances traded outside U.S. jurisdiction at negative spreads to Treasurys, we examine the conditions under which a parallel offshore dollar financial system that circumvents Western sanctions may emerge. We propose a model in which currency use is driven by liquidity provision and safe bond supply. We characterize three equilibrium regimes: high convenience yields emerge in both the initial sanctions-driven region and the final liquidity-driven region, separated by an intermediate region. Transitions between equilibria depend on safe-asset supply and liquidity technologies, in addition to endogenous dynamic complementarities.

Keywords: Sanctions; Liquidity (search for similar items in EconPapers)
JEL-codes: F33 F36 G20 N24 (search for similar items in EconPapers)
Date: 2025-01
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