Eurosystem[€]

Institutional framework

The primary objective of the Eurosystem is to maintain price stability. The Eurosystem, which consists of the ECB and the National Central Banks (NCBs) of the countries which have adopted the euro, defines and implements monetary policy for the euro area according to this objective. In 2003, the Governing Council of the ECB clarified that, in the pursuit of price stability it aims to maintain inflation rates below, but close to, 2% over the medium term.

To implement the decisions made by the Governing Council of the ECB on monetary policy in the euro area, the Eurosystem uses a range of instruments and procedures under its monetary policy implementation framework through which it steers very short term market rates close to its policy rates, the former being considered as the operational target of the monetary policy (as opposed to the ultimate target of price stability).

Key features of the monetary policy implementation framework

Under its operational framework, the Eurosystem conducts open market operations, offers standing facilities and requires credit institutions to hold minimum reserves on accounts with the NCBs. The operations are executed under uniform terms and conditions in all Member States whose currency is the euro. The actual implementation of the single monetary policy is made in a decentralised manner and conducted by the euro area NCBs

The monetary policy framework allows for the participation of a broad range of counterparties under uniform eligibility criteria specified by the Eurosystem to ensure equal treatment across the euro area. Credit institutions are eligible as Eurosystem counterparties if they fulfil the following criteria. They must be: i) located in the euro area (subsidiary or branch) and subject to minimum reserve requirements; ii) subject to harmonised EU/EEA-supervision or comparable third country regime; iii) financially sound; and iv) fulfil the operational criteria. Eligible counterparties may access the Eurosystem's standing facilities and participate in Eurosystem open market operations which are based on standard tenders. Currently, there are around 2,050 eligible counterparties with access to standing facilities and about 1,800 with access to open market operations. As a rule, NCBs conduct the single monetary policy only with counterparties located or domiciled within their respective countries.

The Eurosystem uses open market operations for steering interest rates, managing the liquidity situation in the market and signalling the stance of monetary policy, using either liquidity providing or absorbing operations. These operations can be divided into four categories: (a) main refinancing operations (MROs) which are usually weekly reverse repo transactions; (b) longer-term refinancing operations (LTROs) which are offered every month with a 3-month maturity to provide longer-term refinancing to the banking sector; (c) fine-tuning operations which may be used to fine-tune the amount of liquidity on the last day of the maintenance period but also to deal with liquidity fluctuations in the market; and (d) structural operations. Structural operations, by means of reverse transactions, the issuance of ECB debt certificates or outright transactions 1, may be carried out whenever the structural position of the Eurosystem needs to be adjusted with regard to the financial sector but have never been implemented.

The standing facilities consist of the marginal lending facility (MLF) and the deposit facility (DF). Eligible counterparties may use the MLF to obtain overnight liquidity from the Eurosystem through a reverse transaction with their home NCB at the rate for the MLF using eligible assets as collateral. There is no limit on the amount of liquidity that may be provided under the MLF, subject to eligible collateral availability. A negative balance on a counterparty's settlement account at the end of a business day is automatically considered as a request for recourse to the MLF. Counterparties may use the DF to make overnight deposits with the Eurosystem through the home NCB, to which the DF rate shall be applied. As in the case of the MLF, there is no limit on the amount a counterparty can deposit under the DF. The interest rates on the two facilities form an interest rate corridor for short-term money market rates among eligible counterparties and, together with the rate applied to MROs, signal the general stance of monetary policy.

The minimum reserve system pursues the aims of stabilising money market interest rates and potentially creating (or enlarging) a structural liquidity shortage. All credit institutions are subject to minimum reserve requirements (unless individual exemptions are provided on a case by case basis). The Eurosystem's minimum reserve system enables institutions to make use of averaging provisions, implying that compliance with reserve requirements is determined on the basis of the average of the end-of-calendar-day balances on the counterparties' reserve accounts over a maintenance period (around six to seven weeks). The reserve ratio, currently at 1%, is applied to banks' short-term liabilities (mainly deposits up to 2 years) and the remunerated reserves (at the MRO rate) are to be held on current accounts with the counterparties' home central bank.

Pursuant to Article 18.1 of the Statute of the ESCB, all Eurosystem credit operations (ie liquidity-providing monetary policy operations and intraday credit) are conducted against adequate collateral aimed at protecting the Eurosystem against financial losses in case of default of a counterparty. To ensure a smooth implementation of its monetary policy the Eurosystem accepts as collateral a wide range of marketable debt instruments and non-marketable assets. Eligible assets can be used across all credit operations as long as they fulfil transparent, uniform eligibility criteria specified by the Eurosystem. These are mainly based on the classification of the asset, credit quality, listing market, the type of issuer, country of residence or incorporation and the currency of denomination. There are currently around 25,000 marketable assets eligible as collateral, which are published in the list of eligible marketable assets (C2D/EA).

Every eligible collateral is subject to specific risk control measures (primarily haircuts) that are calibrated for different asset classes to ensure compliance with the risk tolerance defined by the Eurosystem in a neutral fashion.

Due to the inherent flexibility in the monetary policy implementation, the Governing Council of the ECB may, at any time, change the instruments, conditions, criteria and procedures for the execution of Eurosystem operations.

Non-standard monetary policy measures

In response to the banking, financial and sovereign debt crisis, and the ensuing macroeconomic impact and risks for price stability, the ECB Governing Council has taken a series of non-standard monetary policy measures. As part of the non-standard measures, MROs and LTROs are currently being conducted as fixed rate tender procedures with full allotment (FRFA). The maturity of additional LTROs has been extended to up to 3 years, the minimum reserve requirements have been lowered, the collateral framework has (temporarily) been expanded, foreign currency liquidity has been offered and securities lending programmes were set up.

Moreover, since 2009, the Governing Council of the ECB has adopted several asset purchase programmes with the aim to support the functioning of the transmission mechanism. Additionally, since 2014, it has carried out large-scale outright purchases in the context of the Asset Purchase Programme (APP) 2, as well as targeted longer-term refinancing operations (TLTROs), with the aim of safeguarding price stability and further enhancing the transmission of monetary policy. With these tools the Eurosystem seeks to fulfil its mandate through intermediary objectives going beyond the steering of the short term money market. In the current environment of large excess liquidity very short term interest rates are anchored to the lower bound of the corridor. To support the bank-based transmission of monetary policy, while preserving the positive contribution of negative rates to the accommodative stance of monetary policy, the Eurosystem introduced a two-tier system for reserve remuneration, which exempts part of credit institutions' excess liquidity holdings (ie reserve holdings in excess of minimum reserve requirements) from negative remuneration.

Finally, the ECB has also provided forward guidance on the future path of the ECB's interest rate policy conditional on the outlook for price stability.