On Friday, Federal Reserve Bank of New York President William Dudley spoke on "Introductory Remarks at Workshop on "Fire Sales" as a Driver of Systemic Risk in Tri-Party Repo and Other Secured Funding Markets." He says, "I am pleased to have the opportunity to open this workshop and discuss key developments in the tri-party repo market. In my remarks, I would like to give a brief overview of some of the problems that surfaced in this market during the financial crisis of 2008, recognize the improvements that have occurred since then, and most importantly, highlight significant vulnerabilities that still persist despite the progress we have made. While we can feel proud of the enhancements that are currently underway in the tri-party repo market, today I want to underscore the fact that significant work remains to be done. The tri-party repo market constitutes a vital component of the U.S. financial system. It plays an important role in providing financing for broker-dealers that make markets in Treasury and agency securities, and is an important mechanism that supports dealer intermediation of credit. The market also provides a secure investment vehicle for those that manage large amounts of liquidity and need an investment vehicle to park these monies. We care about the health and stability of the tri-party repo market both because of our interest in promoting stable and liquid financial markets and because we use it to implement monetary policy. The recent financial crisis showed us that the tri-party repo market was inherently unstable due to deficiencies in the settlement infrastructure. Prior to 2008, there was limited recognition of the ways in which adverse developments in this market could quickly transmit risk to other parts of the financial system with unforeseen consequences. We now know, with the benefit of hindsight, that the market was overly reliant on massive extensions of intraday credit by the clearing banks to the broker-dealers, that market participants did not adequately appreciate the magnitude of the risk embedded in the role played by the clearing banks, and, as a result, market participants underpriced risk in ways that undermined the market’s resiliency during periods of stress. These vulnerabilities were made apparent in the spring of 2008 when the events surrounding Bear Stearns demonstrated the run risk that existed more broadly in the tri-party repo market, prompting the Federal Reserve to intervene in order to restore confidence and market functioning. This intervention took the form of the creation of a Primary Dealer Credit Facility in March 2008, and a subsequent expansion of the facility in September 2008. The scope and scale of the market disruption were clearly very troublesome."
