1. Banks are polarized into those who can get financing at EONIA and those who cannot -- based on presence or absence of perceived creditworthyness.

2. The healthy  banks can borrow short-term at the 1% rate and lend longer term at higher rates and do. They do so and thus need to borrow overnight on the day they have to have required reserves on deposit. This drives the spike to the MRO rate for that overnight period.

3. The weak banks fund themselves weekly at the 1% rate and park the excess at the .25% rate to earn something, as Jerome noted. This establishes the low .25% EONIA baseline rate.

4. Sterilization reduces liquidity to the point that weak banks, who otherwise would have deposited their weekly 1% borrowings overnight at .25% instead need the money daily. This broadens the duration of the upward spike at the maintenance period.

Well, if liquidity is valuable per se, it might be worth paying something for it, ie - purchase the liquidity at the 1% rate (because you can't get it anywhere else if you're seen as a bad counter-party), and park it temporarily, to deal with daily variations, at the 0.25% rate which is still better than 0%.

Because you suspect that the offer to borrow at 1% might dry up?

Otherwise it seems sensible to wait to borrow until you can get more then 1% for it.

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Maybe they'd be a little bit biased towards excess liquidity, on the theory that they can more easily defray their losses by lending than borrowing in the overnight market. But not nearly enough to make the overnight rate drop to the maintenance rate for eight months together.

- Jake

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