“Reverse” Monetary Policy Transmission

Manmohan Singh and Rohit Goel

This chapter is perhaps the first analytic work on “reverse” monetary policy transmission. The use of long-dated securities as collateral for short tenors – or example, in securities-lending and repo markets, and prime brokerage funding – impacts the risk premia (or moneyness) along the yield curve. Our results suggest that the unwind of central bank balance sheets will likely strengthen the monetary policy transmission, as dealer balance-sheet space is more apt to generate market signals.

In the aftermath of QE, or a variant thereof, expanded central bank balance sheets have placed central bankers in the midst of market plumbing that determines the short-term rates. Given their sizable footprint in the market for such collateral, it will be very difficult for them to walk away from that role. Thus, this channel and the potential implications for the monetary policy transmission are critical to examine.

Historically, most of monetary policy research tries to explain the term premia using the expected path of the future short-term rates. This is in line with the standard monetary policy transmission mechanism whereby central banks generally target a short-term rate. These

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