The ECB has reinforced its intention to ensure the effective implementation of monetary policy by: i) setting favourable conditions (relative cost) for entities to seek recourse to the short-term liquidity provision instruments offered by the central bank (particularly MRO); ii) this is consistent with money market rates evolving closely in line with the key driving rates of monetary policy (DFR); and iii) reducing volatility in short-term money market rates and making this system robust.
Liquidity provision will mainly be funnelled through a mix of instruments, the most relevant of which will be the weekly (MRO) and 3M operations (LTRO). The ECB intends to ensure the MRO regains the relevance it had in the past as a regular mechanism to get liquidity. MRO and LTRO will continue to be conducted through fixed-rate tender at full allotment. The relative cost of these MRO operations will be changed from DFR+50bp to DFR+15bp. This reduction in the lower region of the corridor is clearly aimed at incentivising the regular use of these liquidity-providing operations not only through its cost but also by reducing the “stigma effect”.
Longer-term liquidity-providing instruments (loan and/or securities portfolios) are also contemplated, but with no foreseeable implementation in the near future (in our view, this is not likely until well into 2025). Importantly: i) the timing for this would be set to roughly coincide with the completion of the ECB’s balance sheet reduction, and; ii) it would eventually coincide with new measures in other instruments (change in Minimum reserve requirement?).
Market impact:
i) we don’t expect these announcements to make a significant change to the short-term market rate price discovery (relatively stable ESTR/DFR spreads at current levels) under “normal” circumstances. The provision of liquidity at a reasonable cost should contribute to contain the risk of inconvenient volatility episodes (rates/spreads spikes);
ii) in terms of market risk perception, should the MRO operations finally regain their role as a regular, standardised, alternative funding activity amongst banks, this would smooth the risk associated with the asymmetric distribution of excess liquidity within the Eurosystem. This, in principle, would benefit the banking sectors more exposed to this, but would not avoid individual risk assessment depending on specificities (across all geographies);
iii) as for the “structural portfolio”, any suggestion that the ECB may not fully unwind its asset portfolio and keep some “permanent” volume spare should, in principle, be positive for those assets that are more exposed to supply/demand challenges ahead (i.e. heavy-duty issuers). In any case, we don’t consider this represents a game changer per se.