The Role for the London Money Market

The discount and repo markets

Specialise in borrowing and lending for short periods of time
They lend money S.R. to gov’t and firms by buying bills of exchange.
To do this they obtain money from banks by borrowing money at call from banks and selling banks bills

            DH enables banks to earn interest on liquid assets (money at call)
DH make their money by a process of maturity transformation. Rate of interest on money at call is less than that on discounting bills

IF Banks were short of cash they could call in loans from DH. But if DH are short of money they can borrow from the BoE (known as Lender of the last resort)
            This process of purchasing bills by the BoE is known as rediscounting
Since 1997 the BoE has been willing to lend directly to banks through gilt repos.
The repurchase price will be above sale price. The diff being the BoE preferred rate of interest. I.E the rate chosen by BoE Monetary policy committee.

            THUS BoE IS a guarantor of sufficient liquidity in the monetary system

BOE chooses to create a shortage of liquidity in the economy to force banks to obtain liquidity from it. If banks are forced to borrow from the BoE they will be borrowing at the B chosen rate or REPO rate. The banks will have to gear their rates to it and thus other institutions will have to gear it to the banks

Parallel money markets

  1. inter bank markets
  2. market for CDs
  3. foreign currencies market
  4. finance house market
  5. building society / mortgage market
  6. commercial paper market

these have grown due to

  • financial deregulation
  • opening up of markets
  • volatility of interest rates