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Primary Dealers and the demand for Government Debt

The main objectives of debt management are to raise stable and low-cost funding to meet the government’s financial needs and to maintain a well-functioning market for government securities. A challenge is determining how to sell government debt: the sale format, the choice of securities to offer and the allocation across different maturities. This paper focuses on the allocation of debt across maturities. We propose a method for identifying dependencies in the demand for securities of different maturities. We also present a dealer-client model that captures the interplay between the primary and secondary markets. This interplay rationalizes our empirical results: that the demand of dealers across maturities at auction is complementary. Our results point to the important role that primary dealers play in making markets and highlight how this shows up in demand in primary markets. Given that different clients demand securities of different maturities (preferred habitat), primary dealers satisfy this demand largely by bidding at auction in fixed proportions. Debt managers, therefore, need to ensure that they issue enough volume across maturities to satisfy the varied demand.