Former policymakers warn that the U.S. Treasury bond market needs urgent reforms

Capital market update

A group of heavyweight former policymakers said that unless urgent reforms are taken to improve liquidity, the $22 trillion market of US government debt may be disturbed by frequent dysfunctions, which threaten global financial stability.

A consortium including former U.S. Treasury Secretary Timothy Geithner and Larry Summers and retired central bankers such as Mervyn King of the Bank of England proposed Wednesday completely changed Treasury bills It is traded, supervised and supported by the Federal Reserve.

Their report was also supported by Bill Dudley, the former governor of the New York Fed, and Axel Weber, the governor of the Bundesbank, who turned to UBS chairman. They stated that reforms are needed to ensure the largest, deepest and most important The bond market can function smoothly—especially during periods of acute stress.

“This is a market that has exceeded its infrastructure and regulatory framework. Oversight is decentralized and decentralized. The capabilities of existing market makers have not grown with the size of the U.S. Treasury market itself,” Geithner’s briefing on Wednesday Means in.

“The Treasury bond market needs a world-class regulatory framework with high transparency standards, more diverse participants and a stronger financial foundation.”

The fragility of the market reappears exposed In March 2020, fears about the pandemic triggered a crazy cash rush that caused prices to run out of control. Trading conditions, which should be the safest haven in the financial system, have become turbulent. As liquidity evaporates, brokers’ screens sometimes go blank, prompting the Federal Reserve to intervene.

Regulators tried to piece together the problem, but hardly took any measures to consolidate the market. The report released on Wednesday by the independent group of experts from the private and public sectors of the Group of 30 included 10 recommendations aimed at “increasing, diversifying and stabilizing market-making capabilities.”

One of the proposals is for the Federal Reserve to create a permanent tool that allows eligible market participants to exchange U.S. Treasury bonds for cash at interest rates that discourage frequent use of the market during normal market operations, without causing shame when used in times of stress.

G30 stated that this will help limit the demand for market liquidity when market liquidity is scarce, because investors can choose to sell their holdings.

The organization stated that the “stand-by repurchase” mechanism is the “most important short-term measure” that policy makers should take.Together with another facility designed for foreign counterparties, it has recently endorsement By the Federal Reserve. The U.S. Central Bank began to outline possible designs at its June policy-making meeting.

G30 also proposes to modify the so-called supplementary leverage ratio, which requires large banks to have capital equal to at least 3% of their assets, or for the largest systemically important institutions, capital equal to 5%.

The Federal Reserve made a temporary adjustment to the ratio at the height of the Covid crisis, allowing lenders to exclude the cash in U.S. Treasury bonds and central bank reserves from their assets in the calculation. But these measures failed earlier this year.

The G30 warned that if the SLR is not changed permanently, “it is extremely unlikely that banks will allocate more capital to market makers in the treasury bond and treasury bond repurchase markets”.

It added: “Regulations aimed at stabilizing will continue to undermine [the] market. “

It also called on regulators to establish a central clearing for all Treasury bond transactions to increase market transparency and reduce counterparty risks. G30 added that more transaction reports and public disclosures are needed, as well as more market supervision coordination.

Geithner said: “Financial crises play an important role in exposing problems in the structure of the financial system. These problems may not be obvious during periods of relative calm, but after a period of financial stress, the momentum for reform usually fades quickly. .”

“Especially in the Treasury bond market, the pressure for reform may be weakened by the Fed’s belief that the Fed can always intervene and solve the problem. This is not a particularly wise approach. It is best to act when the memory of the last crisis is still fresh. .”

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