Discussion — Lectures 7 & 8

This session covers Lecture 7: Repos, Postponing Settlement and Lecture 8: Eurodollars, Parallel Settlement.

• Lecture 7 Notes
• Lecture Notes

Lecture 7 describes repurchase agreements (repo or RP), which are a type of instrument that allows for collateralized lending in the money market. Anyone—not just banks that have reserve accounts the Fed—can participate in the repo market. That includes corporations and foreign financial institutions.

In the repo market, the flow of money implies a corresponding flow of collateral. If the securities used as collateral lose their value, then that impedes the flow of money. Firms can become less able to borrow and less able to roll over their funding independent of anything their own creditworthiness.

Lecture 8 introduces the Eurodollar market, which is the market for offshore dollars. Before 2008, Eurodollars often took the form of unsecured time deposits. Time deposits (as opposed to demand deposits) allow us to lock in a specific time pattern of cash commitments ahead of time.

The forward rate agreement (FRA) and the forward exchange contract allow us to lock in interest rates and exchange rates ahead of time. We use limplicit balance sheet arrangements to describe these derivative instruments. The failure of forward interest parity (FIP) and uncovered interest parity (UIP) presents a mystery.

As with the Fed Funds market, the Eurodollar market has seen a big shift in recent years, again mostly being supplanted by repo. The LIBOR benchmark interest rates have been abandoned in favor of the SOFR (secured overnight funding rate).

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