These tendencies are particularly marked if there is a perceived certainty about the stability of low interest rates. 7 Many of these positions are funded on a collateralized basis. Such asset-based financing creates intensely procyclical liquidity cycles. In these cycles, rising asset prices increase funding liquidity, which finances further purchases and prompts additional price increases. Over time, haircuts are relaxed, further intensifying the cycle.
8,9 It is important to recognize that expectations about monetary policy can feed these dynamics. It would appear that the so-called “Clean” doctrine reinforces the risk-taking behaviour of agents.