The implication is that central banks need to have a watchful eye on developments in the repo market to ensure that it transmits and reflects the intended monetary policy stance. This includes monitoring the impact of their own actions on repo market activity, as well as the effects of other, external factors that could potentially drive a wedge between central banks’ own intentions and actual financial market conditions. In fact, two watchful eyes are not too many, in view of the risks that this market may pose to financial stability. Because repo trades are predominately of a very short-term nature, and secured funding can create a false sense of security when collateral prices are in fact often procyclical2, excessive reliance on repo market funding may quickly turn into a source of instability for the financial system as a whole. The scars from the great financial crisis are still visible today. In my remarks today I would like to discuss two factors that have recently been highlighted by market observers, practitioners and academics alike as potentially challenging the intermediation capacity of repo markets, namely central bank asset purchases and post-crisis prudential regulation.3 I will show that the ECB’s asset purchase programme (APP) left a visible footprint in the repo market, but that last year’s modifications to our securities lending facility contributed to restoring an appropriate balance between ensuring the effectiveness of our measures and the smooth functioning of repo markets.
According to MMSR data, euro area government bonds represent more than 80% of the collateral used. Second, the supply of safe private collateral is necessarily scarce12, while the supply of safe public collateral has fallen on account of both a decline in net issuance and the downgrades in sovereign credit ratings. For example, the share of euro area bonds rated AAA by at least two rating agencies has fallen from levels around 60% before the great financial crisis to around 20% today. In other words, safe debt is in short supply and debt in long supply is less safe.13 This is also why the Governing Council’s decision of 26 October, when it decided to extend the horizon of its asset purchases by another nine months, and to reduce the pace of monthly purchases to € billion, emphasised the contribution of the stock of acquired assets, together with forthcoming reinvestments, to providing continued monetary support. 6 / 10  BIS central bankers' speeches  Financial regulation and repo market activity Asset purchases are not the only factor affecting supply and demand conditions in cash and repo markets. This brings me to the second part of my remarks. As you know, a number of liquidity regulations affecting banks, such as the net stable funding ratio (NSFR) and the liquidity coverage ratio (LCR), require banks to hold a sufficient quantity of high-quality liquid assets.