CURRENT-ACCOUNT DEPOSITS

Current-account deposits with Danmarks Nationalbank are demand depositswhichthemonetary-policycounterpartiesmayuseas meansof

1

See Tucker (2004) and Woodford (2001) for further discussions of this topic.

2

Goodhart (1985) discusses the central bank's liquidity function and role in the settlement of interbank accounts in more detail.

MONETARY POLICY AND PAYMENT SYSTEMS Box 2.1 The following provides a simplified example of the relationship between monetary policy and settlement of payments in Denmark. The example considers a single partici- pant in the payment system. It is assumed that the participant is a monetary-policy counterparty holding only one account with Danmarks Nationalbank for settlement of both payments and monetary-policy instruments. During a monetary-policy day, the account may be overdrawn against collateral, but overdrafts from one day to another are not permitted. The monetary-policy day runs from 4:00 p.m. to 3:30 p.m. on the following banking day. In other words, negative balances (overdrafts) are not permitted "overnight" in the period from 3:30 p.m. to 4:00 p.m. on the same calendar day. Chart 2.3 shows how the balance of the participant's account at Danmarks Natio- nalbank might develop over three monetary-policy days.

EXAMPLE OF DEVELOPMENT IN PARTICIPANT'S CURRENT-ACCOUNT

BALANCE Chart 2.3 -15 -10 -5 0 5 10 15 7 8 9 10 11 12 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 Time Day 1 4:00 p.m.-3:30 p.m. Kr. million Day 2 4:00 p.m.-3:30 p.m. Day 3 4:00 p.m.- 3:30 p.m. "Overnight" 3:30-4:00 p.m. "Overnight" 3:30-4:00 p.m. a.m. p.m. a.m. p.m.

During the monetary-policy day, liquidity is withdrawn from and deposited in the account as various payments are settled. Danmarks Nationalbank's payment system, Kronos, is open for payments in Danish kroner between 7:00 a.m. and 4:30 p.m., ex- cept between 3:30 and 4:00 p.m. when the counterparties' accounts with Danmarks Nationalbank are settled in connection with the start of a new monetary-policy day. Outside the opening hours, balances may only fluctuate as a result of settlement of payments related to securities registered with VP Securities or in connection with the Sumclearing retail payment system.

The individual participant's liquidity may fluctuate considerably over the day. If payment system participants did not have access to overdraft facilities at Danmarks Nationalbank within a monetary-policy day, but instead had to settle such fluctuations among themselves, this would require considerable money-market transactions during the day, both in numbers and in volumes. Generally, the overdraft facility provides for more flexible settlement of payments since it prevents situations where individual system participants have insufficient liquidity in their accounts at Danmarks Nationalbank to settle payments as required. This reduces the risk of queues and delayed settlement of payments.

payment without notice and at their own initiative. These accounts play a key role in monetary policy and payment systems in Denmark:

• Danmarks Nationalbank's lending to and deposits from its monetary- policy counterparties are settled via their current accounts.

• Danmarks Nationalbank's other transactions with its counterparties, including foreign-exchange transactions, are also settled via the cur- rent accounts.

• The current accounts are the backbone of Danmarks Nationalbank's payment system, Kronos, in which considerable liquidity transfers be- tween counterparties take place on a daily basis.

• Large payments to and from the central government are also handled via the current accounts.

The current-account deposits of the monetary-policy counterparties ac- crue interest at the current-account rate, which is an overnight interest rate, i.e. a rate of interest on 1-day deposits. The current-account rate is lower than the rate of interest on certificates of deposit, typically 0.1-0.5 per cent lower, but there are no fixed rules. This helps to ensure that the monetary-policy counterparties have an incentive to plan their liquidity requirements and actively settle liquidity fluctuations among themselves on market terms in the money market rather than passively placing their liquidity in current accounts.

Current-account limits

A ceiling (limit) has been set for the monetary-policy counterparties' total current-account deposits at the close of the day (i.e. at the close of the monetary-policy day at 3:30 p.m.). The overall limit is approximately kr. 25 billion, broken down as individual current-account limits for the counterparties. The purpose of these limits is to prevent the build-up of large current-account deposits at Danmarks Nationalbank that may be used without notice for speculation in interest-rate and exchange-rate changes if the krone is under pressure.

If the customers of the monetary-policy counterparties wish to specu- late against the krone for a larger amount than the current-account deposit, the excess amount must be financed via provision of liquidity by Danmarks Nationalbank. The terms and conditions for such liquidity are not known at the time of the speculative transaction. Danmarks Natio- nalbank has the option to charge a rate of interest on such liquidity which is so high that any speculation gain is eliminated.

The current-account limits of the individual counterparties only apply if the counterparties' total current-account deposits exceed the overall limit. In other words, the monetary-policy counterparties may exceed

their individual limits, provided that the overall limit is not exceeded. Deposits exceeding the individual limits accrue interest at the current- account rate as long as the overall current-account limit is not exceeded. If the overall limit is exceeded at the close of the day, deposits exceeding the individual limits will be converted into certificates of deposit. When the money and foreign-exchange markets are calm, Danmarks Natio- nalbank, via its open market operations in certificates of deposit, en- sures that the current-account limits do not impede the daily settlement of payments. Consequently, it has been necessary to convert current- account deposits into certificates of deposit only once since the system of current-account limits was introduced in June 1999, cf. Box 2.2. In special circumstances it has, however, been necessary temporarily to sus- pend the current-account limits, as was the case in September 2008 in connection with turmoil in the money market and large demand for li- quidity.

The individual current-account limits have been determined on the basis of the counterparties' activities in the money market. Counter- parties with extensive activity in the money market, which are key con- tributors to smooth exchange of liquidity, have the highest current- account limits. The limits are updated on a regular basis.

Overall, the current-account limits contribute to ensuring a well-func- tioning money market since the counterparties are encouraged to ex- change liquidity among themselves.