ECB drains more cash to balance short-term rates

A man walks past the European Central Bank in Frankfurt
©AFP/DDP/File - Martin Oeser

FRANKFURT - The European Central Bank said Friday it had withdrawn another 141.56 billion euros (203 billion dollars) from eurozone money markets in a six-day operation, marking three straight days of vigorous action to drain excessive liquidity.

Overall, the amounts withdrawn over the three days were substantially more than a huge injection made Tuesday, part of a double-pronged ECB approach to ease year-end liquidity strains while clamping down on above-target inflation.

But the one-week Euribor rate turned sharply upwards.

The ECB set a fixed rate of 4.0 percent for the transaction, the same level as its benchmark lending rate, a move designed to "align short-term interest rates with the minimum bid rate," a bank statement said.

The operation would be settled on Friday and mature next Thursday, the bank added.

ECB officials have been providing longer-term cash, albeit still through the short-term money markets, for banks which need to meet minimum reserve requirements at the end of the year and to encourage interbank lending, while siphoning off very short-term funds to avoid a build-up of liquidity that could fuel inflation.

In Vienna on Friday, the Austrian member of the ECB's governing council Klaus Liebscher insisted in the Kurier newspaper that the central bank would do everything necessary to reduce eurozone inflation, which reached a peak of 3.1 percent in November, well above the bank's upper target limit of 2.0 percent.

The bank's operation on Friday was similar to one on Thursday for 150 billion euros after overnight interbank interest rates fell to 3.75 percent, a sign of a surplus of available funds.

On Wednesday an initial withdrawal had removed more than 133 billion euros.

On Tuesday, the bank launched its biggest ever single injection of funds into the markets on which banks lend to each other, providing nearly 350 billion euros for two weeks at a flat rate of 4.21 percent to help banks get through a crunch period at the end of the year.

Conditions on euro area money markets remain tight however, because banks have become wary of lending to each other since the US subprime crisis emerged in August.

Banks do not know how exposed counterparts are to losses stemming from the collapse of the US market for high-risk mortgages and prefer to abstain from lending amid the uncertainty.

With the end of the year approaching, banks also want to make sure their books show ample cash reserves.

On Friday, the one-week euro area interbank money market was tense, with the Euribor (Euro Interbank Offered Rate) climbing to 4.548 percent from 4.018 a day earlier.

One-week levels in normal times track closer to the ECB benchmark refinancing rate of 4.0 percent.

Economist Jonathan Loynes at Capital Economics in London said it was "a reflection of the continued concerns over the lack of liquidity over the end of year period."

The two-week outlook, which matures after the end of the year, eased to 4.501 percent from 4.530 percent, while the one-month rate dropped to 4.476 percent from 4.532 percent.

That, Loynes said, "doesn't mean there's nothing to be concerned about because it's part of a much bigger concern, but it's not unexpected."

Economists say that even after the end of year phenomenon has been dealt with, a broader credit issue will have to be addressed by central banks, possibly through decreased interest rates despite inflation that is much higher than the ECB would like.