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The Impact of Treasury Supply on Financial Sector Lending and Stability

Arvind Krishnamurthy and Annette Vissing-Jorgensen
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Arvind Krishnamurthy: Stanford University and National Bureau of Economic Research
Annette Vissing-Jorgensen: National Bureau of Economic Research, University of California, Berkeley, and Center for Economic Policy Research

No 15-46, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We present a theory in which the key driver of short-term debt issued by the financial sector is the portfolio demand for safe and liquid assets by the nonfinancial sector. This demand drives a premium on safe and liquid assets that the financial sector exploits by owning risky and illiquid assets and writing safe and liquid claims against them. The central prediction of the theory is that safe and liquid government debt should crowd out financial sector lending financed by short-term debt. We verify this prediction with US data from 1875 to 2014. We take a series of approaches to rule out standard crowding out via real interest rates and to address potential endogeneity concerns.

Keywords: Treasury Supply; Monetary Economics; Financial stability; Banking (search for similar items in EconPapers)
JEL-codes: G12 G2 E4 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ban and nep-mac
Date: 2015-11
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