We expect the ECB to take a significant step and introduce a negative deposit rate at the meeting in June. We also think the ECB will boost liquidity through a new 3Y LTRO in order to push market rates closer to the deposit rate.
The ECB system and the banking system are a closed system, in which banks can place liquidity at each other, but at the end of the day any excess liquidity has to be deposited at the ECB. This implies that for a given level of excess liquidity the negative deposit rate cannot be avoided at a system level.
The macroeconomic implications of a negative deposit rate are not straightforward. This follows as there are both 'standard effects' of a monetary easing and 'non-standard effects' due to the negative deposit rate.
In our view the expected easing from the ECB will lead to higher growth and put upward pressure on inflation, as the negative unintended consequences will be dominated by the positive effects.
When Danmarks Nationalbank introduced a negative deposit rate, it was not to stimulate the economy but to safeguard the fixed-exchange rate policy. The effect on the Danish economy was fairly small, which might be due to some technicalities aimed at limiting the economic impact.
The Danish example shows that money market rates can indeed be negative but only for short-dated bonds and OIS rates.
Judging from the experience in 2012-13, the Eonia O/N can settle as low as 5bp above the deposit rate. Hence, with a high amount of liquidity and the deposit rate lowered to -0.10%, we expect the Eonia O/N to become mildly negative.
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