LAW, LIQUIDITY, AND MONETARY POLICY.

The effective transmission of monetary policy depends on the Federal Reserve's ability to regulate liquidity in the financial system. However, monetary policy is not the only institutional framework that affects liquidity. Bankruptcy law's "safe harbors" for repurchase agreements affect liquidity by creating incentives for money market creditors to adjust their leverage in a procyclical fashion. In the last decade, the bankruptcy treatment of repurchase agreements has been the subject of a heated debate among academics and policymakers. This Article seeks to contribute to the debate on the proper scope of safe harbors by departing from the rigid macroeconomic framework that inspired many of the arguments made in that debate to date in favor of a more flexible one, emphasizing the role of the institutional frameworks in liquidity regulation. Specifically, this Article argues that the effective regulation of liquidity requires the coordination of monetary policy and bankruptcy law. Currently, the two are designed independently based on different policy considerations. Against this backdrop, this Article proposes a design of bankruptcy treatment of repurchase agreements incorporating considerations of monetary policy. The design links monetary policy and legal policy in a coherent framework for macro-financial policymaking revolving around liquidity. [ABSTRACT FROM AUTHOR]