Money-market rates, deposits and the ECB deposit rate

What you will learn

• How the ECB's three key interest rates form a corridor and why the deposit facility rate matters most
• What €STR and Euribor measure
• How to calculate the yield of a discount instrument such as a Bubill
• How quickly deposits, Bubills and money-market funds react to rate changes

Explanation

What the ECB does and why rate expectations move markets is covered in the macro course; savings accounts and deposit protection are covered in the personal finance course. Here you go deeper into the mechanics of the short end of the euro market.

The ECB's three key rates

• Deposit facility rate (DFR): the rate banks receive for leaving money overnight at the central bank.
• Main refinancing operations rate (MRO): the rate banks pay in the ECB's regular weekly lending operations against collateral.
• Marginal lending facility rate (MLF): the rate for overnight borrowing from the central bank, the upper limit.

According to the ECB, the gap between the MRO and the DFR was reduced to 0.15 percentage points (15 basis points) with effect from 18 September 2024, while the MLF stays 0.25 percentage points above the MRO. A basis point is 0.01 percentage points.

Because banks in the euro area hold large amounts of excess money at the central bank, the deposit facility rate is the rate that actually anchors short-term market rates. When news says "the ECB cut rates by 0.25", this is the rate most people mean. Rates change over time; check the current values on the ECB website.

Market rates built on it

• €STR (euro short-term rate): published by the ECB every business day, based on actual overnight unsecured borrowing by banks. It usually sits slightly below the DFR.
• Euribor (Euro Interbank Offered Rate): reference rates for terms such as 3, 6 and 12 months. Many floating-rate loans and bonds use it. Longer terms include expectations about future ECB decisions.

Instruments for private investors

• Overnight deposits (Tagesgeld): banks can change the rate at any time; many follow the DFR with a delay and only partly.
• Fixed-term deposits (Festgeld): the rate is locked for the term; early access is usually not possible.
• Bubills (Unverzinsliche Schatzanweisungen): short-term German federal securities with maturities of up to about 12 months. They pay no coupon; you buy below 100 and receive 100 at maturity.
• Money-market funds and ETFs: hold very short instruments or track an overnight rate such as €STR. Their return follows the current rate minus costs, so it falls soon after rate cuts.

Discount yield calculation

Money-market rates are usually quoted on an ACT/360 basis (actual days divided by 360):

Annualised yield = (100 ÷ price − 1) × 360 ÷ days to maturity

Worked example

Hypothetical example: You buy a nominal €10,000 of a 12-month Bubill with 364 days to maturity at a price of 97.80. Fees, spreads and taxes are excluded.

1. Cost: €10,000 × 97.80% = €9,780.
2. Gain at maturity: €10,000 − €9,780 = €220.
3. Return for the period: €10,000 ÷ €9,780 − 1 = 2.2495%.
4. Annualised on ACT/360: 2.2495% × 360 ÷ 364 = 2.22%.

Now assume a money-market ETF with a TER of 0.10% that tracks €STR, and €STR is 2.40% (hypothetical). Expected net return ≈ 2.40% − 0.10% = 2.30% per year, as long as €STR stays there. If the ECB cuts the DFR by 0.25 percentage points a month later, €STR will drop by roughly the same amount within days, and so will the ETF's running return. The Bubill keeps its locked 2.22%. An overnight account may follow the cut quickly, slowly or only partly, depending on the bank.

Common mistake

Practice activity

A 6-month Bubill with 182 days to maturity costs 98.90. You buy a nominal €20,000. (a) What do you pay and what is the gain? (b) What is the annualised yield on ACT/360? (c) For comparison, how much interest would €20,000 earn in an overnight account at 2.0% (ACT/365) over 182 days if the rate did not change?

Key takeaways

• The deposit facility rate anchors short-term euro rates; the MRO and MLF sit above it at fixed gaps.
• €STR measures actual overnight bank borrowing; Euribor covers terms and includes rate expectations.
• Bubills and fixed-term deposits lock a rate; overnight accounts and money-market funds follow rate changes.
• Annualised discount yield = (100 ÷ price − 1) × 360 ÷ days.

Next step

Next, you will look beyond the euro and see how currency moves change the result of foreign bonds for euro investors.