Dollar and government bond liquidity: evidence from Korea

Jieun Lee

No 1145, BIS Working Papers from Bank for International Settlements

Abstract: Using unique tick-by-tick data from an exchange, this paper examines the relationship between the US dollar and liquidity in the Korean government (Treasury) bond market. We find that a strong US dollar deteriorates the Treasury market's liquidity by increasing the bid-ask spread and the price impact and lowering market depth. The effects of fluctuations in the broad US dollar index on Treasury market liquidity become more pronounced when funding liquidity conditions are tighter, when banks' total capital ratio is lower with greater foreign currency risk, or when there is a larger sell-off of Korean Treasury bonds by foreign investors. The empirical evidence supports the financial channel of exchange rates affecting Treasury market liquidity. In particular, a strong dollar as a global risk factor is likely to limit the market intermediation capacity of emerging market dealers through the currency exposures of borrowers or dealers and thus tighten market conditions.

Keywords: dollar; exchange rate; Treasury bond liquidity; funding liquidity; foreign investors (search for similar items in EconPapers)
JEL-codes: E58 F34 G12 (search for similar items in EconPapers)
Date: 2023-11
New Economics Papers: this item is included in nep-ifn, nep-mst and nep-opm
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