Informational Frictions in Funding and Credit Markets

A key function of financial intermediaries is to borrow in financial markets and lend to firms. I show this creates informational linkages between repo and corporate bond markets. My key result is improving transparency in either market may lower welfare even if funding liquidity improves. My mechanism can help explain the bond and repo market dysfunction during the 2008 financial and COVID-19 crises, and the impact on bond markets of the introduction of TRACE. Central to my findings is that bond prices serve as useful signals that minimize firms’ aggregate distress costs by coordinating firms' borrowing and intermediaries' lending activities.