Fragility of Safe Assets

Thomas Eisenbach and Gregory Phelan

No 23-02, Working Papers from Office of Financial Research, US Department of the Treasury

Abstract: The market for U.S. Treasury securities experienced extreme stress in March 2020, when prices dropped precipitously (yields spiked) over a period of about two weeks. This was highly unusual, as Treasury prices typically increase during times of stress. Using a theoretical model, we show that markets for safe assets can be fragile due to strategic interactions among investors who hold Treasury securities for their liquidity characteristics. Worried about having to sell at potentially worse prices in the future, such investors may sell preemptively, leading to self-fulfilling “market runs” that are similar to traditional bank runs in some respects. Our results motivate potential policy interventions to stabilize the market during times of stress and disruption (Working Paper no. 23-02).

Date: 2023-04-03
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