Collaterals, Short Term Debts and the Interbank Rate Spread Puzzle

There has been a persistent spread during the Subprime crisis between the interbank rate and the monetary policy rates. In this paper we investigate the key role plaid by the use of ABS as collaterals in the short term debt market in producing this large spread. The key idea is that when in August 2007 ABSs stopped to be accepted as collaterals, a relevant segment of the money market dropped and the only market where banks could continue to finance their leverage with short term debt was the unsecured interbank market. Our empirical analysis confirms that a relevant variable for explaining the interbank rate dynamic is the outstanding volume in the Asset Backed Commercial Paper market, i.e. collateralized Commercial Papers where the collateral is an ABS. Therefore, our paper shows that the large spread we observed in the market is explained by the inter-relationship between collateralized short term debt markets and the unsecured interbank market.