European Central Bank Monetary Policy Instruments and Liquidity Management

ECB Monetary Policy Instruments and Operations

Refinancing Operations

Commercial banks must provide assurances that they will return the money. The warranty is provided for financial assets that are pledged or used in repurchase agreements (repo yield). Commercial banks have been able to invest some of their money in, for example, notes of Endesa.

Longer-Term Financing Operations (LTROs)

Longer-term financing operations are identical to the main refinancing operations but have a maturity of 3 months instead of 1 week. They also take place once a month, not once a week. Commercial banks participate in an auction depending on how long they expect their cash requirements to last. The ECB provides much more liquidity through the main operations than with the longer term. Therefore, the so-called main operations are no longer the primary instrument of economic policy of the ECB.

Fixed-Rate Full-Allotment Policy

The phrase "open bar with liquidity" means that whatever liquidity the banks asked for was to be granted. This meant auction or nothing: whatever you ask, everyone receives. And at a fixed rate, meaning that since there was no auction, entities did not indicate the interest rate they were willing to pay, and all the loans were granted at the same rate, which was 1 percent.

Reverse Operations and Structural Adjustment

Reverse operations and structural adjustment operations virtually use no resources by the ECB and respond to the need to adjust the money supply in the euro area where there are short-term imbalances (fine-tuning) or long-term structural needs.

Standing Facilities

The other large group of instruments the ECB uses are called facilities. These include:

• A positive sign: the credit facilities (Marginal Lending Facility), which is a commercial bank loan.
• A negative sign: the deposit facilities (formerly referred to as warehouse facilities), which account for the opposite movement: commercial banks deposit money in their account at the ECB, thereby reducing money in circulation in the eurozone.

Credit Facilities (Marginal Lending)

Credit facilities help commercial banks solve their daily problems of liquidity. They can use them without limit and are typically utilized to fulfill their obligation to meet reserve requirements. This is an extraordinary remedy because it is more expensive than the main refinancing auctions, typically 1 percent higher.

Deposit Facility

The deposit facility is the option for commercial banks to place excess cash flow, liquidity, or money with the ECB.

Minimum Reserve Requirements

Along with the instruments the ECB/ESCB uses to provide money or accept money on deposit, there is the reserve requirement. The overall percentage set by the ECB is 2 percent of the money deposited by customers.

Additional Features of Reserve Requirements:

• Commercial banks maintain their minimum reserve in an account with the ECB/ESCB.
• Banks do not have to keep 2 percent of all their liabilities with the ECB/ESCB.
• The cash ratio is not calculated on a daily basis; the bank does not have to change the balance in the ECB/ESCB account daily to fit 2 percent of its liabilities on that day (it is calculated over a maintenance period).