The Importance of Being Special: Repo Markets During the Crisis

Abstract

We study how the Italian sovereign bond scarcity premia - specialness - in the repo market were affected by the European Central Bank (ECB)'s purchases during the Euro area sovereign debt crisis. We propose and calibrate a search-based dynamic model with a central bank acting as a buy-and-hold investor. Consistent with model predictions, ECB purchases drive specialness of targeted securities in combination with short-selling. Special benchmark bonds entail a positive cash premium but their market liquidity decreases when purchased by the ECB. Short-sellers were more likely to fail-to-deliver very special bonds while holders of these bonds were less inclined to pledge them as collateral to the ECB liquidity operations. JEL Classification: E43, E51, G01, G12, G23