Flash Comment ECB Liquidity 251010

www.danskeresearch.com Investment Research General Market Conditions In this note we provide an overview of the subcomponents in the calculation of excess liquidity and look at upcoming key events for excess liquidity developments. Banks could take extra liquidity at the three-month auction on 27 October, which is the first to run into next year and this could press EONIA O/N downward. There has been little frontloading so far in the current maintenance period and the downward drift in EONIA is thus likely to be modest – possibly just a few basis points. When the last 12-month auction matures in December we could see a further drain in excess liquidity and a resulting further normalisation in money market rates. We anticipate that Trichet will announce at the press conference in December that the ECB will continue to provide full allotment at least until 12 April 2011. The ECB may announce at its press conference in March that it will shift to fixed allotment at all auctions. Normalisation of excess liquidity and rates Excess liquidity in the euro area has fallen from above EUR300bn in June to around EUR50bn and as a result EONIA and Euribor rates have increased sharply. It has also increased uncertainty about the future developments in short market rates and thus the focus on the development in liquidity conditions. In this note we first look at upcoming key events and discus implications for money market rates. Then we give a brief overview of the subcomponents in the analysis of the euro area liquidity conditions. A few key dates On 27 October we have allotment on a three-month auction. This is the first auction to run into next year and it is thus possible that banks will use this opportunity to get extra liquidity. We believe that this could temporarily give some downward pressure on EONIA O/N. The three months LTRO that matures on 28 October amounts to EUR23.2bn. In recent maintenance periods we have seen EONIA rates moving downward at the end of the maintenance period, reflecting that banks tend to frontload their fulfilment of reserve requirements. At the beginning of this maintenance period banks’ current account holdings have only been about EUR12bn higher than the average reserve requirement compared with around EUR50bn in the previous maintenance periods. The downward drift in EONIA O/N as we move toward 9 November is thus likely to be significantly less pronounced than previously – a few quick “back of the envelope” calculations indicate that we should not expect more than 3-4 basis points. Important disclosures and certifications are contained from page 4 of this report. 25 October 2010 Research Euro area: Excess liquidity and money market rates Key events 27 October 3-month auction could increase excess liquidity. 9 November EONIA O/N could decline as we move toward the end of the maintenance period. 2 December The ECB may announce full allotment until 12 April. 23 December The last 12- month operation matures. 3 March 2011 the ECB may announce shift to fixed allotment. Excess liquidity has dropped Source: Reuters Ecowin and own calculations Money market rates normalising Source: Reuters Ecowin Senior Economist Frank Øland Hansen +45 45 12 85 26 [email protected]

Flash Comment ECB Liquidity 251010

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