Money and Interest Rate - How the central bank controls the nominal interest rate - How the ECB controls interest rates

4 important questions on Money and Interest Rate - How the central bank controls the nominal interest rate - How the ECB controls interest rates

The Governing Council of the ECB has direct control of only one interest rate, known as the main refinancing rate, which is:

The interest rate that commercial banks pay to borrow reserves from the ECB

The inter-bank market provides the link between the ECB's refinancing rate and the interest rates that firms and households earn of saving or pay to borrow. This is:

A wholesale market on which commercial banks can borrow or lend to each other.

The ECB influences the overnight inter-bank rate by offering commercial banks alternatives to the inter-bank market. These alternatives are known as the ECB's:

  • Marginal lending facility: a facility that enables commercial banks to borrow reserves from the ECB, which puts a ceiling on the inter-bank rate.
  • Deposit facility: a facility that enables commercial banks to deposit excess reserves with the ECB, which sets a floor for the inter-bank market.
-> as changes in the ECB's refinancing rate lead to changes in the interest rates that the ECB charges or offers on its lending and deposit facilities, they also lead to changes in the inter-bank rate.
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The EONIA (European Over-Night Index Average) is:

A weighed average of overnight rates on the Eurosystem's inter-bank markets.

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