Friday, December 23, 2011

More on the Shortage of Safe Assets

As a follow up to my earlier piece on the shortage of safe assets, I direct you to Rebecca Wilder's post where she documents the broad decline of investment grade sovereign debt.  As I mentioned before, this increasing shortage of safe assets matters because many of these assets serve not just as a store of value but as transaction assets that  either back or act as a medium of exchange. In other words, this problem matters because it adversely affects the demand for money and therefore nominal spending. 

One solution is for producers of truly safe assets, primarily the U.S. Treasury, to create more safe assets.    Brad DeLong takes this view.  This approach, however, worsens the Triffin dilemma for the world's go-to safe asset, U.S. Treasury debt.  Another solution is for the Fed and the ECB to restore nominal incomes to pre-crisis trends. Doing so would spur a sharp recovery that would lower the demand for safe assets and increase the stock of safe assets.  Both of these developments would reduce the excess money demand problem and avoid worsening the Triffin dilemma for U.S. treasury debt.  See my previous post for more.


  1. Do you think that the recent ECB LTRO can contribute in sucking safe assets away from the system?

  2. Safe assets can serve as collateral at close to their face value. But risky assets can serve as collateral, too, only for loans of less than their face value. So why attribute such importance to the quantity of safe assets?

  3. I don't understand. You're pointing to a declining supply in something. Fair enough. But how does that constitute a shortage? As supply falls and demand for safe assets rises, their price rises. And that is exactly what we've seen over the last few years, constantly rising US bond prices (as well as those of other safer sovereigns). Where is the problem here?

  4. Socrates,

    Anonymous, if risky assets were viewed no differently than safe assets then why did Wall Street transform them into AAA-rated assets?

  5. Anonymous:

    I don't know, but Anil Gupta's answer looks plausible: regulatory arbitrage.