Interbank markets show resilience to Greek woes

Money markets look set to remain resilient to the growing prospect of Greece restructuring its debt, bolstered by the backstop of ECB liquidity and banks' limited exposure to Greek bonds. As bond markets continue to price in a landmark change in the repayment terms of Greek government debt, potentially imposing losses on private sector debtholders, interbank lending rates remain broadly stable and driven by liquidity and interest rate expectations.
The European Central Bank (ECB) currently allows banks to deposit collateral - including Greek government bonds -in exchange for unlimited access to low cost funding. This secure source of money, introduced in response to the 2008 crisis, keeps the interbank lending market functioning and has prevented a loss of confidence in weaker banks' ability to fund themselves, analysts said. While reliance on ECB funding has shown signs of dwindling in recent months, the presence of a substantial liquidity backstop for the most dependent institutions dampened the risks of stress spreading through the market, analysts said.
As long as any restructuring of Greece's debt did not harm the eligibility of Greek collateral with the ECB or force banks to reduce the value of their holdings, the recent low volatility in overnight and benchmark interbank rates could continue. More broadly, the shift away from unsecured interbank lending into secured sources of funding meant the risks stemming from not knowing how exposed counterparties were to Greek debt had help keep a lid on systemic risk fears.
Key Euribor bank-to-bank lending rates rose to two-year highs as strong eurozone growth and quickening inflation continued to fuel expectations the ECB would pursue further rate hikes this year. The 6-3 split in favour of maintaining interest rates at 0.5 percent caused few ripples in current UK rate expectations, leaving short sterling contracts broadly unchanged. The sterling overnight rate curve shows a 25 bps hike is not fully priced in until early next year.