Richmond Fed, Report: Averting a Treasury Market Crisis

“Why is market liquidity so important? While daily — and sometimes dramatic — fluctuations in Treasury prices, such as the “flash crashes” of October 2014 and September 2019, affect traders’ bottom lines, price volatility stemming from a shock like that in 2020 can have far more dire consequences for the entire economy. If, in the face of some calamitous shock, sellers simultaneously sought to cash out and were unable to locate ready buyers for Treasurys, the market could grind to a halt, freezing all other markets as well. In other words, lending at almost every level would cease and borrowers ranging from the federal government to homeowners would potentially default.”

“As a practical matter, the Fed would likely intervene to prevent such a scenario from fully playing out. But recent reports suggest the Treasury market is again encountering liquidity challenges, with regulators and policymakers acknowledging that, while the market is well-functioning now with trading volume averaging about $600 billion per day, some changes to its structure are necessary to avoid a repeat of March 2020 or worse.”