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Inferring Term Rates from SOFR Futures Prices
The Alternative Reference Rate Committee, a group of private-sector market participants convened by the Federal Reserve, has recommended that markets transition to the use of the Secured Overnight Financing Rate (SOFR) in financial contracts that currently reference US dollar LIBOR. This paper examines the feasibility of using SOFR futures prices to construct forward-looking term reference rates that are conceptually similar to the term LIBOR rates commonly used in loan contracts. We show that futures-implied term SOFR rates have closely tracked federal funds OIS rates over the eight months since SOFR futures began trading. To examine the performance of our approach over a longer time horizon, we compare term rates derived from federal funds futures with observed overnight rates and OIS rates from 2000 to the present. Consistent with prior research, we find that futures-implied term rates accurately predict realized compounded overnight rates during most periods.
AUTHORS: Heitfield, Erik; Park, Yang-Ho
Monitoring, moral hazard, and market power: a model of bank lending
We model the relationship between market power and both loan interest rates and bank risk without placing strong restrictions on the moral hazard problems between borrowers and banks and between banks and a government guarantor. Our results suggest that these relationships hinge on intuitive parameterizations of the overlapping moral hazard problems. Surprisingly, for lending markets with a high degree of borrower moral hazard but limited bank moral hazard, we find that banks with market power charge lower interest rates than competitive banks. We also find that competition makes banking industry risk highly sensitive to macroeconomic fluctuations by making banks more vulnerable to borrower moral hazard. This finding offers an explanation for the dramatic rise and subsequent decline in bank failure rates during the 1980s and 1990s.
AUTHORS: Covitz, Daniel M.; Heitfield, Erik
The geographic scope of retail deposit markets
In the United States, antitrust authorities rely heavily on numerical measures of local banking market concentration such as the Herfindahl Hirschmann Index to assess the likely competitive effects of proposed bank mergers and acquisitions. This approach to antitrust enforcement relies on two important assumptions: (1) that markets for at least some types of banking products are local in scope, and (2) that market concentration measures can serve as effective proxies for banks' abilities to extract monopoly rents. This paper uses balance sheet data from most banks operating in the United States in 1988, 1992, 1996, and 1999 to test these assumptions.
AUTHORS: Heitfield, Erik; Prager, Robin A.
Treatment of double-default and double-recovery effects for hedged exposures under pillar I of the proposed New Basel Capital Accord
AUTHORS: Barger, Norah; Heitfield, Erik