Discussion Paper

How Can Safe Asset Markets Be Fragile?

Abstract: The market for U.S. Treasury securities experienced extreme stress in March 2020, when prices dropped precipitously (yields spiked) over a period of about two weeks. This was highly unusual, as Treasury prices typically increase during times of stress. Using a theoretical model, we show that markets for safe assets can be fragile due to strategic interactions among investors who hold Treasury securities for their liquidity characteristics. Worried about having to sell at potentially worse prices in the future, such investors may sell preemptively, leading to self-fulfilling “market runs” that are similar to traditional bank runs in some respects.

Keywords: safe assets; liquidity shocks; global games; Treasury securities; COVID-19;

JEL Classification: G1;

Bibliographic Information

Provider: Federal Reserve Bank of New York

Part of Series: Liberty Street Economics

Publication Date: 2022-09-08

Number: 20220908