Abstract
Following the Dodd-Frank Act, central clearing and centralized trading became mandatory for a class of the most liquid interest rate swaps (IRS). Nevertheless, IRS market making in the dealer-to-client sector remained concentrated at a few regulated banks that transfer their funding costs to end users. I develop an equilibrium model of IRS markets with imperfect competition among capital-constrained dealers. Using proprietary data on cleared IRS transactions and the dealers' daily margin requirements, I empirically investigate the impact of recent regulatory changes on market liquidity. By exploiting the variation in margin requirements across swaps with different risk profiles intermediated by bank-affiliated dealers, my estimates show that a 1 percentage point increase in the supplementary leverage ratio (SLR) leads to an increase of $1.5 billion in the annual cost of hedging for the end-users.
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