Using these three monetary policy instruments, the Eurosystem would normally take short-term money market rates to the level of the key policy rate. This policy rate is established by the ECB’s Governing Council with a view to maintaining price stability.
Euro area credit institutions are obliged to hold a certain average amount of money, known as minimum reserves, with their national central banks, usually for a period of six weeks. The reserve requirements normally contribute to a shortage of liquidity (cash) in the euro area. Because of this, banks are dependent on the ECB to obtain liquidity.
Open market operations
These are operations through which the ECB provides financing to banks in order to satisfy their liquidity needs or to absorb excess liquidity from the system. In order to protect the Eurosystem from potential losses, loans to banks are always collateralised. Open market operations also include operations in which the Eurosystem directly purchases or sells debt securities on the financial markets.
There are various operations, which can be broken down based on purpose and frequency:
- Main refinancing operations
Main refinancing operations have a maturity of one week. They are auctioned on a weekly basis. Main refinancing operations may be carried out with full or partial allocation. In the event of full allocation, all submissions of bids will be honoured. In the event of partial allocation, a choice is made between a fixed-rate and a variable-rate tender. If a fixed-rate tender is chosen, all banks pay the main refinancing rate. If a variable-rate tender is opted for, the highest bidders (starting from the minimum bid rate) will first be allocated their liquidity, until the total amount to be provided by the ECB has been reached.
- Longer-term refinancing operations
The longer-term refinancing operations enable credit institutions to obtain liquidity on a monthly basis, in principle for a period of three months. In addition, in recent years refinancing operations have also been carried out on a temporary basis, with longer maturities of up to four years.
- Fine-tuning operations
These operation enable the ECB to respond quickly and effectively to any unforeseen increase or decrease in liquidity on the money market, which may lead to unwanted changes in interest rates.
- Structural operations
These operations can be performed to influence the structural liquidity position of the credit institutions in the euro area.
Refinancing operations are usually denominated in euro. However, they can also be denominated in other currencies, e.g. the US dollar, to meet the financing needs of banks in these currencies.
Through the standing facilities, credit institutions may, on their own initiative, take up additional liquidity overnight (marginal lending facility) or deposit excess liquidity (deposit facility).
- Marginal lending facility
The marginal lending facility enables credit institutions that cannot fill their liquidity needs on the money market to obtain additional liquidity on collateral. The marginal lending facility enables credit institutions that cannot fill their liquidity needs on the money market to obtain additional liquidity on collateral. This involves overnight credit, i.e. credit that matures the following morning. The interest paid on this is the marginal lending rate. The marginal lending rate is always higher than the fixed rate for refinancing operations. The marginal lending rate therefore represents the upper limit of money market rates.
- Deposit facility
The deposit facility enables credit institutions to deposit excess liquidity with one of the national central banks until the following morning. In principle, the interest rate on the deposits held is the deposit rate. However, in 2019 it was decided to exempt part of these deposits from the (negative) deposit rate. The deposit rate is always below the fixed rate for refinancing operations. This rate therefore represents the lower limit of the money market.
The monetary policy of the ECB provides a general description of the Eurosystem’s instruments.