Collateral in Financial Plumbing

Collateral flows lie at the heart of any proper understanding of market liquidity, and hence of financial stability. No other market is so critical to the functioning of the financial system, and yet so poorly understood. In addition, though, as policymakers begin to acknowledge the inadequacies of traditional theories of money and lending, collateral flows are increasingly recognised to be just as important a driver of credit creation as money itself. Despite this, a true appreciation of the importance of collateral flows is hampered by the inadequacy of the way in which they are accounted for. So it is natural for this first chapter to look at the accounting and legal interpretation of collateral.

Using hand-picked data from annual reports, this chapter shows that financial collateral volumes are on a par with money metrics and thus need to be better understood from monetary and macroeconomic perspectives.

Money and Pledged Collateral 

For overall financial lubrication, the financial system requires collateral and money for intraday debits and credits.

The cross-border financial markets traditionally use cash or cash-equivalent collateral (ie, money or highly liquid fungible