Monetary policy financial transmission and treasury liquidity premia

Maxime Phillot and Samuel Reynard



JEL classification
E52, E43, E41

Treasury liquidity premia, monetary policy, yield curve, deposit channel


We quantify the effects of monetary policy shocks on the yield curve through their impact on Treasury liquidity premia. When the Fed raises interest rates, the spread between less-liquid assets and Treasuries of the same maturity and risk increases, as the liquidity value of holding Treasuries increases when the aggregate volume of banks’ customer deposits decreases. The longer the maturity is, the smaller - but still significant - the increase in the liquidity premium is, as longer-term Treasuries are less liquid. Due to this change in liquidity premia, the spread between a 10-year Treasury bond and a 3-month T-bill yield increases by approximately 5 basis points for a one-percentage-point increase in the policy rate, i.e., the Treasury yield curve steepens, ceteris paribus.