Report

Evidence That Relaxing Dealers’ Risk Constraints Can Make the Treasury Market More Liquid

Abstract: This brief studies how regulation involving bank capital requirements affects the behavior of bank-affiliated primary dealers in the Treasury market. Specifically, it looks at the potential effects of changes to the supplementary leverage ratio (SLR) requirement, which determines how much capital a bank must hold in relation to its overall exposure, including exposure in its trading assets such as Treasuries. The SLR is a measure of a bank’s ability to absorb losses during periods of financial stress; the Federal Reserve sets a minimum requirement for the SLR to help protect the stability of the banking system by preventing excessive leverage. Our analysis presents evidence that relaxing the SLR constraint—that is, lowering the required SLR—can cause an increase in dealers’ Treasury trading activity, especially among dealers affiliated with more constrained (lower-SLR) banks. This finding implies that the SLR requirement is indeed binding for some banks—that it constrains their Treasury positions to levels they would not otherwise choose.

JEL Classification: G10; G12; G18; G21;

Bibliographic Information

Provider: Federal Reserve Bank of Boston

Part of Series: Current Policy Perspectives

Publication Date: 2025-03-04

Number: 25-4