Repo and the Liquidity Risk Premium

Adam Copeland and Owen Engbretson

No 1189, Staff Reports from Federal Reserve Bank of New York

Abstract: Securities dealers play a central role intermediating funds in the U.S. short-term money markets. This intermediation involves risk, which can be mitigated by holding buffers of liquid securities. The cost of holding these buffers—the liquidity risk premium—is driven by the opportunity cost of holding money and so is influenced by monetary policy. We use detailed data on the pricing of repurchase agreements (repo), the main contract used to provide secured funding in the money markets, to measure by how much changes in monetary policy affect the liquidity risk premium embedded in repo pricing. The results imply that both changes in administrative rates and in aggregate reserves have effects on this risk premium and that this relationship is nonlinear. Using the average values of rates and reserves in 2024, the estimated coefficients predict that a 100-basis-point increase in the interest rate on reserve balances results in a 0.9 basis point increase in the liquidity risk premium—a 10 percent increase in the spread charged by securities dealers to their clients. The same effect on this risk premium can be achieved by a $429 billion decrease in the aggregate reserves.

Keywords: repo; liquidity risk premium; rate pass-through; short-term funding (search for similar items in EconPapers)
JEL-codes: E58 G23 (search for similar items in EconPapers)
Pages: 57
Date: 2026-03-01
New Economics Papers: this item is included in nep-cba, nep-ifn and nep-mon
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DOI: 10.59576/sr.1189

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