Saturday, July 14, 2012

ECB Deposit Facility after the rate cut

At its monthly Governing Council meeting, ECB last week decided to cut the rate offered by its deposit facility by 25 basis points, bringing the rate down to 0.00%.  See ECB announcement here.  The new rate became effective this past Wednesday.

Since the new rate came into effect, we have seen some significant changes in balances of  the liquidity accounts at the ECB - see charts below.

Deposit Facility at the ECB

Current Accounts at ECB

The current accounts at ECB hold the required banking reserves and earn remuneration at the rate of .75%, and excess reserves held in that account does not earn any interest.  Till this past Tuesday, the excess reserves that banks held at the deposit facility earned 0.25%, but with the new interest rate, there is no difference between holding excess reserves at the current accounts or at the deposit facility.  In fact there has been significant outflow of excess reserves from the deposit facility (see the significant dip of the dotted blue plot in the deposit facility chart above) to the current accounts (see the significant spike of the red plot in the required reserves chart above) since the new policy came into effect.  However, total excess reserves have more or less remained the same (see the red plot in the current account chart above) - I guess may be it's the banks' way of wanting to park all their reserves in a single account, since either way they are not earning any remuneration on their excess reserves.

What's significant with ECB doing away with interest on excess reserves is that the floor on the rates of inter-bank lending has dropped to 0.0% and was definitely reflected in the benchmark European OverNight Index (EONIA) the last few days (see chart below).