03 December 2017

BIS: December 2017 BIS Quarterly Review: Paradoxical tightening echoes bond market "conundrum"

Markets shrugged off moves by some major central banks to wind back stimulus over the last quarter: global financial conditions paradoxically eased further amid heightened concerns about overvalued asset prices.

Continued low bond yields and low volatility, particularly in the United States, are reminiscent of the bond market "conundrum" referred to by former US Federal Reserve Chair Alan Greenspan in 2005, when market yields remained low despite Fed rate hikes.

Easier US financial conditions coincided with a decline in the term premia components of yields, or the extra return investors seek for holding a longer-term bond rather than shorter ones. For asset pricing, there are lingering uncertainties about how precisely this compression works over time, or how yields would react once central bank policies normalise.

"Can a tightening be considered effective if financial conditions unambiguously ease? And, if the answer is 'no', what should central banks do?" asked Claudio Borio, Head of the Monetary and Economic Department. "In an era in which gradualism and predictability are becoming the norm, these questions are likely to grow more pressing."

The December 2017 issue of the Quarterly Review also:

Analyses the reallocation of risk in the global banking system over the last decade through credit risk transfer vehicles such as guarantees, derivatives or collateral. Global banks continue to shift credit risks out of financial centres and riskier emerging market economies, and into advanced economies. Even so, banks have increased credit exposures to emerging Asia. This reflects the bigger international footprint of companies and banks from these countries, and creditors' greater willingness to keep such exposures on their balance sheets.

Finds an initial positive response to a US move to expand the availability of central clearing in the repo market to a broader set of institutional investors. Prices in US repo markets have started to converge, signalling a potential reduction in post-crisis market segmentation.

Press release

BIS_quarterly review

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