Good collateral has velocity and central banks cannot rely on institutions’ excess reserves to supply the market, said the a senior economist from the International Monetary Fund at the 30th Risk Management Association Conference on Securities Lending in Boca Raton, Florida.
Manmohan Singh was speaking as part of a panel discussion on the optimisation, scarcity, efficiency and eligibility of collateral.
“Hedge funds are the single largest suppliers of collateral,” he said, followed by large banks, which act as custodians of large supplies, and then entities such as pension funds and insurers.
Hedge funds, he explained, had $1.8 trillion in pledged collateral at the end of 2012, up slightly from $1.7 trillion in 2007, while others, including US and European banks, had $1 trillion last year compared to $3.4 trillion in 2007.
In 2007, those entities held a combined volume of $10 trillion, but this dropped to $6 trillion in 2012. The velocity of that collateral fell from 3 units to 2.2 units over the five-year period.
“Collateral moves—it finds the maximum price in the chain,” said Singh, adding: “Siloing is not good for financial lubrication.”
Unfortunately, “collateral velocity—or re-use—is coming down”, he said. Central banks point to institutions’ excess reserves as useful sources, but “good collateral in the market has velocity” and cannot be left to stagnate on balance sheets, like it did after the Lehman Brothers Crisis.
Concluding, Singh said that the collateral space has changed since the Lehman Brothers crisis, largely due to quantitative easing.
When quantitative easing programmes wind down, and new rules from Basel III and the US Dodd-Frank Act take effect, particularly leverage and liquidity coverage ratios, the collateral space will change again, added Singh.