Regulatory incentives and the structure of euro area money markets

This paper quantifies the regulatory cost of short-term money market transactions and analyses how post-global financial crisis prudential reforms shape the structure of euro area money markets and the redistribution of central bank reserves. As the stock of reserves declines with the normalisation of the European Central Bank’s balance sheet, trading in money markets is becoming increasingly important to banks’ liquidity management. As the related money market volumes rise, regulatory constraints may become a more visible determinant of trading activity and short-term rate formation. Focusing on key Basel III requirements – the liquidity coverage ratio, net stable funding ratio and leverage ratio – the paper derives stylised estimates of the marginal regulatory cost associated with unsecured and secured interbank transactions. The results indicate that unsecured interbank lending entails material regulatory costs, estimated at around 35 basis points for lenders and around 15 basis points for borrowers in the second half of 2025, reflecting capital and stable funding requirements. By contrast, secured transactions such as repurchase agreements benefit from substantially lower costs, typically well below 10 basis points when backed by high-quality collateral. These differences create structural incentives favouring secured over unsecured intermediation, suggesting that repo markets are likely to remain the main channel for reserve redistribution as the stock of reserves declines. The findings imply that post-crisis regulation has contributed to a persistent shift in the structure of euro area money markets, with implications for liquidity distribution and monetary policy implementation.