ECB

OBJECTIVES AND TASKS OF THE ESCB

The primary objective of the European System of Central Banks (ESCB), as defined in Article 2 of the Statute of the European System of Central Banks and of the European Central Bank (ESCB Statute), is to maintain price stability. Without prejudice to the primary objective of price stability, the ESCB shall support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community. In pursuing its objectives, the ESCB shall act in accordance with the principle of an open market economy with free competition, favouring an efficient allocation of resources.

The basic tasks to be carried out by the ESCB are defined in Article 3 of the ESCB Statute. These tasks include:

to define and implement the monetary policy of the Community;
to conduct foreign exchange operations;
to hold and manage the official foreign reserves of the participating Member States;
to promote the smooth operation of payment systems; and
to contribute to the smooth conduct of policies pursued by the competent authorities relating to the prudential supervision of credit institutions and the stability of the financial system.

Monetary functions and operations of the ESCB

The ESCB Statute (Articles 17 to 24) specifies the monetary functions and operations of the ESCB. On the basis of these provisions, the European Monetary Institute (EMI) prepared an operational framework for the ESCB's monetary policy. The final decision on the operational framework will be taken by the Governing Council of the European Central Bank (ECB). The Governing Council of the ECB may decide not to use all the available options or may change certain features of the instruments and procedures presented below. Further detailed information on these issues can be found in the EMI publications entitled “The single monetary policy in Stage Three - Specification of the operational framework” (January 1997) and “The single monetary policy in Stage Three - General documentation on ESCB monetary policy instruments and procedures” (September 1997).

Monetary policy instruments

The operational framework consists of a set of instruments; the ESCB will conduct open market operations, it will offer standing facilities and it may require credit institutions to hold minimum reserves on accounts with the ESCB.

Open market operations

Open market operations will play an important role in the monetary policy of the ESCB for the purpose of steering interest rates, managing the liquidity situation in the market and signalling the stance of monetary policy. Five types of instruments will be available to the ESCB for the conduct of open market operations. The most important instrument will be reverse transactions (applicable on the basis of repurchase agreements or collateralised loans). The ESCB may also use outright transactions, the issuance of debt certificates, foreign exchange swaps and the collection of fixed-term deposits. Open market operations will be initiated by the ECB, which will also decide on the instrument to be used and the terms and conditions for the execution of such operations. It will be possible to execute open market operations on the basis of standard tenders, quick tenders or bilateral procedures. With regard to their aim, regularity and procedures, the ESCB open market operations can be divided into the following four categories:

The main refinancing operations are regular liquidity-providing reverse transactions with a weekly frequency and a maturity of two weeks. They will be executed by the national central banks on the basis of standard tenders and according to a pre-specified calendar. The main refinancing operations will play a pivotal role in pursuing the purposes of ESCB open market operations and provide the bulk of refinancing to the financial sector.
The longer-term refinancing operations are liquidity-providing reverse transactions with a monthly frequency and a maturity of three months. They will be executed by the national central banks on the basis of standard tenders and according to a pre-specified calendar. These operations aim to provide counterparties with additional longer-term refinancing. As a rule, the ESCB will not intend to send signals to the market by means of these operations and will therefore normally act as a rate taker.
Fine-tuning operations can be executed on an ad hoc basis with the aim both of managing the liquidity situation in the market and of steering interest rates, in particular in order to smooth the effects on interest rates caused by unexpected liquidity fluctuations. Fine-tuning operations will primarily be executed as reverse transactions, but may also take the form of outright transactions, foreign exchange swaps and the collection of fixed-term deposits. The instruments and procedures applied in the conduct of fine-tuning operations will be adapted to the types of transactions and the specific objectives pursued in performing the operations. Fine-tuning operations will normally be executed by the national central banks through quick tenders or bilateral procedures. The Governing Council of the ECB will decide whether, under exceptional circumstances, fine-tuning bilateral operations may be executed by the ECB itself.
In addition, the ESCB may carry out structural operations through the issuance of debt certificates, reverse transactions and outright transactions. These operations will be executed whenever the ECB wishes to adjust the structural position of the ESCB vis-à-vis the financial sector (on a regular or non-regular basis). Structural operations in the form of reverse transactions and the issuance of debt instruments will be carried out by the national central banks through standard tenders. Structural operations in the form of outright transactions will be executed through bilateral procedures.

Standing facilities

Standing facilities aim to provide and absorb overnight liquidity, signal the general stance of monetary policy and bound overnight market interest rates. Two standing facilities, which will be administered in a decentralised manner by the national central banks, will be available to eligible counterparties on their own initiative:

Counterparties will be able to use the marginal lending facility to obtain overnight liquidity from the national central banks against eligible assets. The interest rate on the marginal lending facility will normally provide a ceiling for the overnight market interest rate.
Counterparties will be able to use the deposit facility to make overnight deposits with the national central banks. The interest rate on the deposit facility will normally provide a floor for the overnight market interest rate.

Minimum reserves

Preparatory work has been carried out with a view to enabling the ESCB to impose minimum reserves as from the start of Stage Three. It will be up to the Governing Council of the ECB to decide whether minimum reserves will actually be applied. Any minimum reserves system would be intended to pursue the aims of stabilising money market interest rates, creating (or enlarging) a structural liquidity shortage and possibly contributing to the control of monetary expansion. The reserve requirement of each institution would be determined in relation to elements of its balance sheet. In order to pursue the aim of stabilising interest rates, the ESCB's minimum reserves system would enable institutions to make use of averaging provisions. This implies that compliance with the reserve requirement would be determined on the basis of the institutions' average daily reserve holdings over a one-month maintenance period.

Counterparties

The ESCB monetary policy framework is formulated with a view to ensuring the participation of a broad range of counterparties. If minimum reserves are applied, only institutions subject to minimum reserves may access the standing facilities and participate in open market operations based on standard tenders. If no minimum reserves are applied, the range of counterparties will broadly correspond to credit institutions in the euro area. The ESCB may select a limited number of counterparties to participate in fine-tuning operations. For outright transactions, no restrictions will be placed a priori on the range of counterparties. Active players in the foreign exchange market will be used for foreign exchange swaps conducted for monetary policy purposes.

Underlying assets

Pursuant to Article 18.1 of the ESCB Statute, all ESCB credit operations have to be based on adequate collateral. The ESCB will allow a wide range of assets to underlie its operations. A distinction is made, essentially for purposes internal to the ESCB, between two categories of eligible assets: “tier one” and “tier two” respectively. Tier one consists of marketable debt instruments which fulfil uniform Monetary Union-wide eligibility criteria specified by the ECB. Tier two consists of additional assets, marketable and non-marketable, which are of particular importance for national financial markets and banking systems and for which eligibility criteria are established by the national central banks, subject to ECB approval. No distinction will be made between the two tiers with regard to the quality of the assets and their eligibility for the various types of ESCB monetary policy operations (except for the fact that tier two assets are normally not used in outright transactions). The eligibility criteria for underlying assets to ESCB monetary policy operations are the same as those applied by the ESCB for underlying assets to intraday credit. Furthermore, ESCB counterparties may use eligible assets on a cross-border basis, i.e. they may borrow from the central bank of the Member State in which they are established by making use of assets located in another Member State.