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ECB: Declining Excess Liquidity Slowly Being Reflected In Money Market Spreads

ECB
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The reduction in Eurozone excess liquidity from a high of ~E4.7trln in November 2022 to ~E2.9trln today is slowly being reflected in money market spreads. The ECB considers current levels of excess liquidity to be ample, but will be closely watching developments in funding markets over the coming months. In a speech at the start of November, Executive Board member Schnabel said “there is significant uncertainty about banks’ ultimate liquidity preferences, as well as about the capacity of money markets to efficiently distribute excess liquidity across the euro area”.

  • More colour on the ECB’s assessment of balance sheet policy will be provided at MNI’s upcoming event with Executive Board member Cipollone (topic: “The ECB's balance sheet and its implications for monetary policy”). Sign up here.
  • A faster pace of monetary policy portfolio contraction (with PEPP reinvestments fully discontinued as of this year) will contribute to further declines in excess liquidity over the next few years. The ECB expects excess liquidity to decline to just above E2trln by the end of 2026, according to staff projections presented by Schnabel.
  • One potential measure of excess liquidity ampleness is the spread between the deposit rate and the ESTR overnight rate. This spread has seen a very gradual decline since mid-2023 from just over 10bps to ~8.5bps, but the sensitivity of ESTR to changes in liquidity continues to appear relatively muted.
  • The spread between the 6m Euribor fixing and the 6m ESTR swap may be a better gauge of liquidity ampleness, since Euribor rates include a liquidity component. This spread has widened from ~13.5bps in Q1 2024 to ~19bps today, likely reflecting less abundant liquidity conditions.
  • Finally, usage of the MRO facility has risen from less than E200mln through 2021 and early 2022 to E9.1bln at the end of last year. This may be a consequence of lower excess liquidity, but is more likely reflective of the narrower corridor between the Deposit Rate and MRO rate as of September 2024 (15bps from 50bps prior). 

 

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The reduction in Eurozone excess liquidity from a high of ~E4.7trln in November 2022 to ~E2.9trln today is slowly being reflected in money market spreads. The ECB considers current levels of excess liquidity to be ample, but will be closely watching developments in funding markets over the coming months. In a speech at the start of November, Executive Board member Schnabel said “there is significant uncertainty about banks’ ultimate liquidity preferences, as well as about the capacity of money markets to efficiently distribute excess liquidity across the euro area”.

  • More colour on the ECB’s assessment of balance sheet policy will be provided at MNI’s upcoming event with Executive Board member Cipollone (topic: “The ECB's balance sheet and its implications for monetary policy”). Sign up here.
  • A faster pace of monetary policy portfolio contraction (with PEPP reinvestments fully discontinued as of this year) will contribute to further declines in excess liquidity over the next few years. The ECB expects excess liquidity to decline to just above E2trln by the end of 2026, according to staff projections presented by Schnabel.
  • One potential measure of excess liquidity ampleness is the spread between the deposit rate and the ESTR overnight rate. This spread has seen a very gradual decline since mid-2023 from just over 10bps to ~8.5bps, but the sensitivity of ESTR to changes in liquidity continues to appear relatively muted.
  • The spread between the 6m Euribor fixing and the 6m ESTR swap may be a better gauge of liquidity ampleness, since Euribor rates include a liquidity component. This spread has widened from ~13.5bps in Q1 2024 to ~19bps today, likely reflecting less abundant liquidity conditions.
  • Finally, usage of the MRO facility has risen from less than E200mln through 2021 and early 2022 to E9.1bln at the end of last year. This may be a consequence of lower excess liquidity, but is more likely reflective of the narrower corridor between the Deposit Rate and MRO rate as of September 2024 (15bps from 50bps prior). 

 

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