European Rates Watch: Potential changes in ECB MRR

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European Rates Watch: Potential changes in ECB MRR

What will the other side say?

Impact on money market rates

Based on the above, we see the potential change in MRR cheapening repo vs unsecured

money market rates, and increasing term funding pressures. This will also be supported

by the fact that the redistribution of reserves across the banking sector will be more

challenged and demand from counterparties may not adjust smoothly. Where some

temporary relative richening in repo can take place is around MRR dates in cases where

banks reduce their funding, driving cash into repo markets.

Can it be done?

As noted above, European banks may increasingly opt for term and repo funding. The

question is whether there is sufficient demand on the other side.

For term funding, the main counterparties in transactions eligible for Euribor fixing

calculations are “other financial intermediaries”, including MMFs) Exhibit 3). However,

MMFs manage their weighted average maturity of their portfolios, which currently

stands at 37 days and have never been above 60 days since 2010 (Exhibit 2). This

arguably limits their ability to meaningfully absorb debt securities with maturities above

two years, leading to increased term-funding premium.

For the repo market, there are also constraints. Repos now account for the highest share

of MMF portfolios since 1999, when the series was first recorded (Exhibit 1). The extent

to which MMFs are willing to increase their repo allocation further may therefore be

limited. For them to increase their allocation to repos, we assume it will have to

cheapen.

Lastly, competition for term retail deposits may increase. We see the steepness of the

EUR curve as creating an opportunity for European insurance companies to offer more