Events

Finance Seminar

Author:

• Stefan Nagel
  University of Michigan

This paper proposes a theory that links the liquidity premium of near-money assets with the level of short-term interest rates: Higher interest rates imply higher opportunity costs of money holdings and hence a higher premium for the liquidity service benefits of money substitutes. Consistent with this theory, short-term interest rates in the US, UK, and Canada have a strong positive relationship with the liquidity premium of Treasury bills and other near-money assets. Treasury security supply variables lose their explanatory power for the liquidity premium once short-term interest rates are controlled for, which favors the opportunity-cost-of-money theory over asset supply-driven models.