Interbank market is one of the segments of the money market in which the banking institutions are the parties, and the short-term financial instruments and interbank deposits in the national and foreign currency are transacted. This market is considered as the most important part of the money market. This is the market in which banks have the possibility of lending to each other their liquid assets. It is also a closed market as the transactions in financial instruments can be carried out only by the commercial banks and Central Bank. The brokers act as the intermediaries in this market and for this they receive commissions. Benefits obtained by the commercial banks through the interbank market are:
- The increase of the degree of independence from the refinance credit of the Central Bank
- Possibility of speculation in the financial instruments of this market, as an additional source of the income,
An interbank deposit is a transaction which involves the receipt or grant of one bank to another of a specified amount of cash, with a pre-determined date and interest rate. There are two kinds of interbank deposits:
- Short-term - these are deposits with a maturity period ranging from one day to one month (overnight O/N, tomorrow next T/N, spot next S/N)
- Long-term - the maturity period of these deposits ranges from one month to one year.
The price of an interbank deposit is its interest rate, which is determined by the following factors:
- Interest rates set by the Central Bank (base rate)
- The money supply and demand
- Reliability of the counterpart on the interbank market, (measured by credit risk).
The most popular are the LIBOR (London Interbank Offered Rate), and LIBID (London Interbank Bid Rate) rates. On international financial markets, these rates serve as a reference for determining the prices of various financial instruments.
The types of interbank markets
There are two types of interbank market:
- interbank market with the transactions in pounds sterling,
- interbank market for foreign exchange transactions.
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- Giannone, D., Lenza, M., Pill, H., & Reichlin, L. (2012). The ECB and the Interbank Market. The Economic Journal, 122(564), F467-F486.