The European Central Bank (ECB) has published an occasional paper finding that prudential requirements favor secured over unsecured interbank transactions, making repurchase agreements (repos) the likely main channel for redistributing reserves as its balance sheet shrinks. The analysis suggests unsecured interbank activity is unlikely to return to levels seen before the global financial crisis. This does not necessarily imply weaker money market functioning, as secured markets have expanded and benchmark rates no longer depend exclusively on traditional interbank borrowing. The paper examines incentives created by the liquidity coverage ratio, net stable funding ratio and leverage ratio. Stylized estimates put marginal regulatory costs for unsecured interbank lending at around 35 basis points for lenders, reflecting capital and stable funding requirements, compared with around 3 to 7 basis points for lending against high-quality collateral. Borrowers face leverage-related costs of around 15 basis points in either segment when borrowing expands their balance sheets without offsetting netting. These estimates assume banks maintain unchanged regulatory ratios. They indicate the scale of incentives rather than predict transaction spreads, which vary with funding costs, available regulatory buffers and internal risk management practices. Access to repo markets remains a constraint, particularly for smaller banks facing fixed participation costs and legal and collateral management requirements. Some may consequently rely more on intragroup funding, correspondent banking relationships or unsecured borrowing. As reserves decline, repo rates may move closer to the main refinancing operation rate, currently 15 basis points above the deposit facility rate. The relative pricing of these facilities and market repos will help determine the balance between market and central bank intermediation.
European Central Bank publishes study finding regulatory costs favor repos over unsecured lending as reserves decline
The European Central Bank has published an occasional paper finding that regulatory costs favor repos as the main channel for redistributing reserves as its balance sheet shrinks. Stylized lender costs are around 35 basis points for unsecured interbank loans versus around 3 to 7 basis points for secured lending against high-quality collateral, suggesting unsecured activity is unlikely to regain its former scale. Uneven repo market access, particularly among smaller banks, may constrain liquidity redistribution.