The fundamental role of the repo market and central clearing

The repo market plays a crucial role in central bank monetary policy and in the funding of the banking system. In this paper, after reviewing the different economic functions of repo contracts, we provide an overview of the structure of government bond repo markets in core advanced economies. We identify three main forces that have driven the dynamics of the euro area repo market in recent years: collateral quality; excess liquidity and collateral scarcity; and the regulatory framework. These forces have a material impact on market activity, the level of applied interest rates and market liquidity conditions. In the European Union, their impact is more pronounced at the end of each quarter, when banks have to comply with regulatory ratios and other charges based on their financial statements. Finally, we explore the role of central clearing services (whose extensive use can help increase the stability and efficiency of the repo market) and the impact of the development of new client clearing models in the repo market, arguing that greater use of these models may lead to greater market efficiency and resilience.