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Volatility in the federal funds market and money market spreads during the financial crisis |
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| Affiliation: | 1. UCL Division of Surgery & Interventional Science, University College London, London, UK;2. Department of Urology, University College London Hospitals NHS Foundation Trust, London, UK;3. Department of Radiology, University College London Hospitals NHS Foundation Trust, London, UK;4. Department of Pathology, University College London Hospitals NHS Foundation Trust, London, UK;5. School of Healthcare Sciences, Cardiff University, Wales, UK;1. University of South Australia Business School, 37-44, North Terrace, Adelaide 5000, Australia;2. College of Northeast Asian Studies, Jilin University, Changchun, China;3. International School of Business, University of Economics Ho Chi Minh City, 17 Pham Ngoc Thach Street, District 3, Ho Chi Minh City, Vietnam;4. Yihong Ma, Business School, Hunan Normal University, 36, Lushan Road, Yuelu Dist., Changsha, Hunan 410081, PR China |
| Abstract: | We analyze the role of federal funds rate volatility in affecting risk premium as measured by various money market spreads during the 2007–2009 financial crisis. We find that volatility in the federal funds market contributed to elevated Overnight Index Swap (OIS) spreads of unsecured bank funding rates during the crisis. Using OIS as a proxy for market expectations, we also decompose London Inter-Bank Offered Rate (Libor) into its permanent and transitory components in a dynamic factor framework and show that increased volatility in the federal funds market contributed to substantial transitory movements of Libor away from its long-run trend during the financial crisis. |
| Keywords: | Federal funds rate volatility Monetary policy Money market spreads |
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