The Leverage Ratio and Liquidity in the Gilt and Repo Markets

Market participants have argued that a significant unintended consequence of post-crisis regulatory leverage ratio requirements has been a reduction in the liquidity of fixed income markets. We assess this claim in the context of the gilt (UK government bond) and gilt repo markets. We find that gilt repo liquidity worsened during the period when UK leverage ratio policy was announced, and that gilt liquidity worsened conditional on factors such as funding costs and inventory risk. We also find evidence that gilt repo liquidity has become less resilient. However, evidence from heterogeneity in dealer behaviour is inconclusive regarding a causal link between leverage ratio requirements and the reduction in market liquidity