By Nicholas Larsen, International Banker
Historically, the market for United States Treasury securities has been a cornerstone of global financial stability. As the world’s deepest and most liquid sovereign-bond market, the benchmark for pricing risk-free assets, the collateral used to secure a significant share of the global financial system and a highly sought-after safe-haven investment, Treasuries have long been regarded as an enduring source of financial stability. With several periods of pronounced market volatility arising during the 2020s, however, that assumption is increasingly being tested.
Recent episodes of dysfunction in the US Treasury market underpin this growing concern. As the COVID-19 pandemic engulfed much of the world by March 2020, for example, investors embarked on a mammoth “dash for cash”, which saw them rapidly dump their Treasury holdings to raise liquidity to meet margin calls and high redemption requests from funds, as well as build cash buffers. As a result, sovereign-bond yields spiked in the United States and other advanced economies, prompting central banks to intervene through asset-purchase policies to restore smooth market functioning.
“While daily—and sometimes dramatic—fluctuations in Treasury prices, such as the ‘flash crashes’ of October 2014 and September 2019, affect traders’ bottom lines, price volatility stemming from a shock like that in 2020 can have far more dire consequences for the entire economy,” the Federal Reserve Bank of Richmond explained in 2023. “If, in the face of some calamitous shock, sellers simultaneously sought to cash out and were unable to locate ready buyers for Treasurys, the market could grind to a halt, freezing all other markets as well. In other words, lending at almost every level would cease, and borrowers ranging from the federal government to homeowners would potentially default.”
In light of the number of marked bouts of volatility over the last five years, many wonder whether the market itself has become a source of systemic risk. “US Treasury market volatility, or the amount that prices have or are expected to fluctuate in a given time period, has remained elevated since 2022 when the Federal Reserve began its rate-hiking cycle,” according to a July 2025 report from Crisil Coalition Greenwich, an analytics firm majority-owned by S&P Global. “This prolonged period of uncertainty, despite an equity bull market that started in 2023, has surpassed the duration of heightened US Treasury volatility observed during the 2007–2008 global financial crisis.”
That volatility is likely to continue for the time being. Total marketable US Treasury debt now exceeds $30 trillion (as of February), up from roughly $10 trillion in the aftermath of the Global Financial Crisis (GFC). This expansion has increased the supply of securities that the market must absorb. While many large banks previously provided the necessary liquidity to absorb supply by participating in Treasury auctions, they remain constrained by tighter capital and liquidity regulations (the Supplementary Leverage Ratio [SLR], in particular) that limit their ability to expand balance sheets—including their capacity to hold Treasuries and to intermediate between buyers and sellers. As a result, the very institutions that historically provided liquidity are now less able to do so.
An increasing share of trading activity is thus conducted by non-bank financial institutions, such as hedge funds and asset managers. In the case of hedge funds, market efficiency and liquidity are undoubtedly promoted through relative-value trades such as the Treasury basis trade, which typically exploits small price differences between Treasury securities and their related derivative contracts. But these trades often involve significant amounts of leverage. Should market conditions shift abruptly—perhaps due to changes in interest rates or funding conditions—leveraged positions may require quick unwinding, which, in turn, can lead to rapid selling of Treasuries that amplifies volatility and quickly removes liquidity from the market.
What’s more, the observed combination of increased supply and constrained Treasury buying over the last two to three years has led to frequent episodes of market mismatches, resulting in pronounced bond-market volatility. “These market events and trends highlight two structural problems in US Treasury markets: the growth of Treasury issuance as the US government continues to borrow more, and the constrained ability of bank dealers to intermediate these markets,” noted the Securities Industry and Financial Markets Association (SIFMA), a trade group representing the US securities industry, in December 2023. “These problems are contributing to growing volatility and episodes of illiquidity, increasing costs for investors, and ultimately potentially contributing to higher borrowing costs for the US government over the longer term.”
Higher interest rates in recent years have also increased the costs of holding and financing Treasuries, impacting the willingness of both bank and non-bank participants to provide liquidity. At the same time, continued fiscal deficits mean that Treasury issuance remains elevated. The market must absorb a large and growing supply of securities, even as some traditional buyers—most notably foreign central banks such as the People’s Bank of China (PBOC)—have reduced their participation.
While the market has continued to function, it has done so with greater reliance on the central bank’s support and with more pronounced swings in liquidity conditions. March 2020’s “dash for cash” episode saw the Federal Reserve (the Fed) intervene and purchase more than $1 trillion in Treasuries within weeks to restore market functioning. More recently, the Fed has introduced facilities such as the Standing Repo Facility (SRF), designed to provide liquidity to primary dealers and other counterparties, and has frequently intervened through major asset purchases to ensure sufficient liquidity.
Although such measures are intended to prevent disruptions in the Treasury market from spilling over into the broader financial system, they also signal rising market instability that requires external support. The market’s growing reliance on the central bank’s backstops also creates an implicit guarantee, whereby participants increasingly assume that the Fed will intervene whenever conditions sufficiently deteriorate.
With conflicts in the Persian Gulf having escalated this year, volatility in the Treasury market has once again skyrocketed, consistent with recent episodes of instability. “Since the inflation shocks of 2022-24, expectations of short-term interest rates had been in decline, following the easing of monetary policy by the Federal Reserve. With the Fed on hold for now, the bond market’s concern over the impact of rising energy prices on inflation has intensified, causing expectations for short-term rates to increase,” according to economist Joseph Brusuelas, writing for mid-market consulting firm RSM. “The term premium is also increasing along with the rising uncertainty over fiscal policy and inflation. The need for additional spending to finance the war would increase US debt, sparking a bond market selloff as investors require additional compensation to cover potential losses.”
Having consulted with various government agencies, industry practitioners, academics and interest groups, the Congressional Research Service (CRS), which works under the United States Congress as a non-partisan public-policy research institution, recently issued several recommendations for promoting the Treasury market’s resilience. Proposed policy options for Congress to consider—either legislative action or agency oversight—include the following:
- Expand the Treasury market’s capacity by (1) reducing intermediaries’ disincentives to offer dealer capacity and (2) exploring new trading venues.
- Mandate central clearing that could enhance the Treasury market’s risk management (not including concentration risk), reduce settlement flows and increase risk transparency.
- Reduce hedge-fund basis-trade leverage through potential over-collateralisation requirements (for example, haircuts) that would curtail certain borrowing activities.
- Evaluate new and existing options for federal-government backstops while maintaining awareness of moral hazards.
- Utilise the U.S. Department of the Treasury’s buyback program to offer liquidity support for Treasury securities.
- Increase data transparency and reporting for risk monitoring and risk mitigation. Increase coordination across different financial organisations and through industry engagements.
While regulators can do little to address the growth in issuance, they can take actions to mitigate the negative consequences for financial stability and long-term debt financing by expanding system capacity, the SIFMA also recommended.
“One way to do this would be to reduce constraints on the ability of bank dealers to intermediate in these markets through measured reforms to both the SLR and GSIB Surcharge, as well as targeted changes to other risk-based capital rules,” according to the trade group’s December 2023 post, “Revisiting US Treasury Market Capacity and Resiliency”. “However, recent actions by regulators, particularly the banking agencies’ Basel III Endgame proposal, are likely to do the opposite, further constraining dealer capacity, raising transaction costs, and potentially disrupting key parts of the market.”