Tarullo Sees No Convincing Explanation for Liquidity Changes

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Federal Reserve Governor Daniel Tarullo said regulatory changes may be one factor affecting liquidity in financial markets, but there isn’t a “very precise and convincing explanation of exactly what has happened.”

Something does seem to have changed, including market structure, a bigger role for asset managers than before the 2008 financial crisis and the growth of high-frequency trading, Tarullo said Thursday at a conference in New York.

“There are changes in the regulatory environment, for sure,” he said. “Those things are all presumably contributing.”

Wall Street bankers including JPMorgan Chase & Co. Chief Executive Officer Jamie Dimon have been warning about a lack of liquidity in the U.S. bond market. Dimon has said that volatility in Treasury markets last October was a “warning shot” to investors, and that the next financial crisis could be exacerbated by a shortage of the securities.

Regulators including the Fed and the Treasury Department are working on a report analyzing liquidity, including the events of Oct. 15, 2014, when yields on 10-year Treasuries plunged the most since 2009.

Dealer inventories of corporate bonds have plunged more than 80 percent since 2007 to between $50 billion and $60 billion, according to Bloomberg Intelligence data. At the same time, the corporate-bond market has ballooned 50 percent to almost $8 trillion.

Scandal Environment

Tarullo also said recent scandals involving bankers are attributable to the environment at their companies.

“When you’ve had the Libor problems and you’ve had the forex problems, it’s difficult to say, ‘Gee, we’ve just got a few bad apples down there somewhere,’” he said.

Regulators shouldn’t be “granular” regarding the culture of banks, he said, noting that management and boards are responsible for making sure employees comply with the law.

“I do think that in the end there is no substitute for punishing, and seriously punishing, individuals who have transgressed the law,” Tarullo said.

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