
Liquidity yields and FX
Liquidity yields are convenience yields of financial securities that typically arise from high liquidity, suitability as collateral or preferred regulatory status. New research argues that relative changes in liquidity yields on government bonds across countries have a significant impact on exchange rate dynamics. Theoretically, an unexpected increase in the liquidity yield on government bonds in country A relative to country B triggers an appreciation of the currency of A versus B in very much the same way in which an unexpected rise in the short-term interest rate differential would. Empirically, there is evidence of a significant and consistent impact of relative liquidity yield changes on exchange rate dynamics across the G10.