Two Monetary Tools: Interest Rates and Haircuts

Adam Ashcraft, Nicolae Gârleanu, Lasse Heje Pedersen

NBER Working Paper No. 16337
Issued in September 2010
NBER Program(s):   AP   EFG   ME

We study a production economy with multiple sectors financed by issuing securities to agents who face capital constraints. Binding capital constraints propagate business cycles, and a reduction of the interest rate can increase the required return of high-haircut assets since it can increase the shadow cost of capital for constrained agents. The required return can be lowered by easing funding constraints through lowering haircuts. To assess empirically the power of the haircut tool, we study the introduction of the legacy Term Asset-Backed Securities Loan Facility (TALF). By considering unpredictable rejections of bonds from TALF, we estimate that haircuts had a significant effect on prices. Further, unique survey evidence suggests that lowering haircuts could reduce required returns by more than 3% and provides broader evidence on the demand sensitivity to haircuts.

Published: Two Monetary Tools: Interest Rates and Haircuts, Adam Ashcraft, Nicolae Gârleanu, Lasse Heje Pedersen, in NBER Macroeconomics Annual 2010, Volume 25 (2011), University of Chicago Press

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Acknowledgments

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