ECB paper: Does liquidity regulation impede the liquidity profile of collateral?

Kirsten Schmidt
Working Paper Series
No 2256 / March 2019

We analyze the pledging behavior of Euro area banks during the introduction of the liquidity coverage ratio (LCR). The LCR considers only a subset of cen- tral bank eligible assets and thereby offers banks an arbitrage opportunity to improve their regulatory ratio by altering their collateral pledging with the Eu- ropean Central Bank. We use the existence of national liquidity requirements to proxy for banks’ incentives to exploit this differential treatment of central bank eligible assets. Using security-level information on collateral pledged with the central bank, we find that banks without a preceding national liquidity require- ment pledge more and less liquid collateral than banks with a preceding national liquidity requirement after the LCR introduction. We attribute the difference across banks to a preparation effect of the liquidity regulation on the national level.

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