What are excess reserves
The ECB requires credit institutions established in the euro area to hold the required minimum reserves (in the form of deposits) on account with their national central bank.
Compliance with minimum reserve requirements is determined at the end of each maintenance period on the basis of average end-of-calendar-day balances in the institutions’ reserve accounts with its respective national central bank, by comparison with its reserve base (defined set of liabilities of up to two years in the balance sheet of credit institutions).
The volume held by institutions in these accounts in excess of minimum reserve requirements is termed ‘excess reserves’.
How the tiering system works
Prior to the introduction of tiering, the whole volume of excess reserves was remunerated at an interest rate of 0% or at the interest rate applicable on the deposit facility, whichever was lower.
As of October 2019, with the introduction of tiering, part of excess reserves have been exempted from negative remuneration at the rate applicable on the deposit facility, currently at -0.5%, and are remunerated at a rate of 0%.
The non-exempt tier of credit institutions’ excess reserves with the central bank continues to be remunerated at 0% or the deposit facility rate, whichever is lower.
Exempt tier
The volume of exempt excess reserves is determined as a multiple of an institution’s minimum reserve requirements. The Governing Council has decided to set the initial multiplier at 6 and the interest rate applicable on exempt excess reserves at 0%. Any adjustment to the multiplier or the interest rate applicable on exempt excess reserves will apply in principle as of the following maintenance period after such decision is made.
Purpose of the system
This system, and in particular the setting of the multiplier applied to minimum reserve requirements (which is the same for all institutions), aims to support the transmission of key interest rates to bank interest rates by mitigating some adverse impacts of negative interest rates on banks’ profitability.
As the financial benefit of tiering is proportional to the minimum reserve level, credit institutions with a business model relying on the collection of deposits enjoy relatively higher exemption limits. Thus, associating the two-tier system to the amount of minimum reserve requirements ensures that the system focuses on the institutions that are the main sources of credit to the real economy.
The calibration adopted seeks to ensure that euro overnight money market rates remain close to levels consistent with the monetary policy stance.
