Banks feel the tension of possible ECB decisions on minimum reserve requirements: what is it and why are there fears of further banking turbulence in the Eurozone?
The ECB meeting today could have unexpected results for banks.
Financial institutions in the Eurozone fear against their balance sheets in Frankfurt’s attempt to use as many tools as possible against excess liquidity and thus inflation.
In particular, speculation is developing on the possibility that European creditors will be forced to deposit more liquidity with the central bank, a measure that could hit their profitability and increase the volatility of short-term euro rates.
Strategists at major companies such as Commerzbank AG, Barclays Plc, and UBS Group AG have warned that the European Central Bank could surprise markets and raise so-called minimum reserve requirements, as early as this week in a bid to reduce costs and drain excess liquidity.
Banks against the ECB? What could happen
Banks’ fears about possible restrictive interventions by the ECB are growing.
It should be noted that euro area lenders are currently obliged to keep 1% of liabilities, such as customer deposits, with their respective central banks, for which they receive no compensation. An increase in minimum reserve requirements could therefore reduce excess reserves, on which 4% interest is still paid, helping central banks limit losses after years of costly quantitative easing programs.
According to a Bloomberg survey, most analysts expect an increase in MRR within the next 12 months. Barclays and Commerzbank say it could be revised to 2% this week.
Locking up more of banks’ liquidity at the ECB not only affects their profitability but also has direct implications for money markets, experts explain. Lenders may resort to “avoidance strategies” to ease the burden of complying with the rules, for example by cutting overnight rates to encourage depositors to take their cash elsewhere.
It is more likely that the ECB will instead choose to begin liquidating the 1.7 trillion euro ($1.8 trillion) stockpile of bonds it bought during the pandemic under a program known as PEPP. According to Simon Freycinet, strategist at Goldman Sachs, such a move would allow a reduction of exposure to sovereign bonds and drain liquidity at a more gradual and predictable pace, without the risk of distortions in the transmission of policies.
The increase in minimum reserve requirements may therefore not be decided so quickly. However, some analysts point out that the impact on bank balance sheets would be worrying. While there is still more than €3.5 billion of excess liquidity in the system, this is unevenly distributed and higher minimum reserve requirements could create a liquidity deficit among some lenders.
According to Commerzbank’s calculations, an increase in MRR of just one percentage point would consume European banks’ aggregate excess net liquidity, potentially forcing them to raise new financing.
“A new uniform rule could have unintended consequences in some markets where liquidity is more limited, for example in Italy”, AXA Investment Managers economists Hugo Le Damany and Francois Cabau wrote in a note.
Original article published on Money.it Italy 2023-10-25 15:28:30. Original title: Perché le banche ora temono la Bce
