Since the Great Financial Crisis (GFC), structural changes in financial markets have significantly altered the nature of liquidity provision. For one, banks have adapted to a new regulatory environment that limits their ability to warehouse risks. At the same time, the heft of non-bank financial institutions (NBFIs) has risen markedly (Carstens (2021), Aramonte et al (2021)). In addition, technological improvements have facilitated high-speed trading on automated platforms (Markets Committee (2022)).
In this environment, episodes of market stress have become more frequent and widespread. We treat “stress” as a broad concept, covering periods of market dysfunction as well as periods when markets are functioning but amid liquidity that is low in historical terms.2 Stress episodes are characterised by impairments to price formation and the breakdown of no-arbitrage relationships. From a policy perspective, it is important to monitor any deterioration of market conditions in real time and, in combination with leading indicators, to anticipate a potential need for intervention before stress has begun.
This special feature develops separate daily market conditions indicators (MCIs) for three key markets: the US Treasury market, US money markets and the foreign exchange (FX) market centred around the US dollar. These markets are key for monetary policy implementation and the fulfilment of central bank mandates. Furthermore, they are distinct yet intertwined, not least in the modern market-based financial system where money market funding of capital market lending supported by collateral plays a key role (Mehrling et al (2013)). We focus on the United States – and by extension the dollar – due to its central role in global financial markets.
For full review: https://www.bis.org/publ/qtrpdf/r_qt2209c.pdf
