Interbank foreign exchange market

The exchange rate of the Icelandic króna is determined in the interbank foreign exchange market, which is open from 9:15 hrs. to 16:00 hrs. on business days. In addition to the Central Bank of Iceland, three financial institutions are authorised to participate in the foreign exchange market and are designated as market makers. The foreign exchange market is governed by the Central Bank of Iceland Rules on the Foreign Exchange Market, no. 1098/2008.

The price of the Icelandic króna versus the euro is determined in the foreign exchange market, where market makers pledge to submit bid and ask quotes. The quotes are published in the Reuters information system, and only market makers have access to them. Foreign exchange market statistics.

 The Central Bank lists the official exchange rate of the Icelandic króna against foreign currencies each business day at 10:45 hrs. The exchange rate listing provides a snapshot of the position in the market at the time the entry is made. 

Main points about the interbank foreign exchange market

• Opening hours: Weekdays 9:15-16:00 hrs.

• Financial institutions are market makers in the foreign exchange market.

  • There are three market makers:

    • Arion Bank hf.

    • Íslandsbanki hf.

    • Landsbankinn hf.

  • Market makers are obliged to maintain active bid-ask quotes and update them at least every 30 seconds.

• The trading currency is the euro.

• The minimum trade amount is specified in the Rules on the Foreign Exchange Market. The trading amount is currently one million euros.

•  The Central Bank of Iceland:

  • Is a participant in the market.

  • Is not a market maker and therefore is not required to maintain active bid-ask quotes.

  • May conduct transactions with market makers at any time during the market’s hours of operation.

  • carries out a supervisory role.

• Lists the official reference exchange rate of the Icelandic króna each business day at 10:45 hrs.

Interbank market for krónur

The interbank market for krónur is an interbank market for unsecured short-term deposits and lending between credit institutions. It was established in June 1998. It operates on the basis of the Rules on Interbank Market Transactions with Icelandic Krónur, no. 805/2009, which the Bank adopted in cooperation with market agents.

The Central Bank’s role, however, is merely to organise and operate the market. It is not a market participant, as it is not authorised to grant unsecured loans. The market for krónur is also known as the REIBOR market, and interest rates in the market are called REIBOR rates. REIBOR is an abbreviation of Reykjavík interbank offered rate.

• Opening hours: Weekdays 9:15-16:00 hrs.

• Financial institutions are participants in the market.

  • There are four market participants:

    • Arion Bank hf.

    • Íslandsbanki hf.

    • Landsbankinn hf.

    • Kvika banki hf.

  • Market participants negotiate credit lines among themselves.

  • Market participants are obliged to submit binding quotes for deposit and lending rates for the following periods: overnight (ON), one week (SW), one month (1M), three months (3M), six months (6M), nine months (9M), and twelve months (1Y).

  • Market participants pledge to update their binding interest rate quotes on interbank deposit and lending rates at intervals of no less than 10 minutes.

• The maximum interest rate spread between deposits and loans in market participants’ quotes for periods of one month or longer is 100 basis points. Quotes for shorter periods are not subject to defined maximum interest rate spreads.

• The Central Bank of Iceland:

  • Is not a participant in the market.

  • Has a supervisory role and keeps track of trading in the market, which it then publishes with its statistical data.

  • Lists daily interest rates in the interbank market for krónur, with maturities ranging from overnight to 12 months. The listing takes place at 11:15 hrs. and is published on the Central Bank website shortly thereafter.

Further information on turnover in the interbank market for krónur can be found on the Bank’s website: 

Further information on the interbank market for krónur can be found in Monetary Bulletin 2002/3.

• The objective of monetary policy implementation
  The objective of monetary policy implementation is to support monetary policy and ensure price stability. To this end, the Central Bank sets interest rates for its transactions with financial institutions and steers the supply of liquidity that it either offers to lend or borrows in weekly market transactions. With these activities, the Bank affects short-term interest rates in the interbank market for krónur, which then affect longer-term interest rates. The Monetary Policy Committee sets the interest rates for Central Bank transactions. Monetary policy objectives.
   
• Rules on Central Bank of Iceland Facilities for Financial Undertakings
  Transactions between financial institutions and the Central Bank are subject to the Rules on Central Bank of Iceland Facilities for Financial Undertakings, no. 553/2009.
  The rules stipulate, among other things, who may be counterparties in transactions with the Central Bank, what types of transactions may take place, and what type of collateral the Bank deems eligible for such transactions. The rules are revised and updated as needed.

• Counterparties in transactions with the Central Bank
  Counterparties in transactions with the Central Bank are commercial banks, savings banks, and credit institutions. Icelandic branches of foreign financial institutions may also conduct transactions with the Central Bank. Even though financial institutions are authorised to conduct transactions with the Central Bank, they do so at their own discretion.
  
  
• Overnight loans and current accounts
  Overnight loans are loans that counterparties to Central Bank transactions may apply for, provided that they can submit collateral deemed eligible by the Bank. Overnight loans are granted until the following business day and bear interest rates that are higher and less favourable than the rates on other types of loans. Overnight interest rates form the ceiling for overnight rates in the interbank market for krónur. A counterparty may apply for an overnight loan in order to ensure that the balance on its accounts with the Bank is positive at the close of business and to fulfil its reserve requirements.
  
  The Rules on Current Accounts in the Central Bank of Iceland, no. 540/2007, specify which parties may hold current accounts with the Bank. Parties with current accounts may make deposits and withdrawals at their own discretion. The Bank pays current account interest rates on all current account balances. It is prohibited to overdraw a current account or other accounts with the Central Bank overnight. Current account interest rates form the floor for overnight rates in the interbank market for krónur.
  
  Overnight loans and current accounts are classified as standing facilities with the Central Bank.

• Market transactions and liquidity management
  In order to achieve its monetary policy objective, the Central Bank of Iceland conducts market transactions with counterparties once a week, on Wednesdays. The objective of the transactions is to steer the supply of liquidity in circulation at any given time, thereby affecting interbank market interest rates. The Bank’s aim with these transactions is to keep interest rates in the interbank market for krónur as close as possible to the Bank’s key rate as defined at any given time. The Bank may conduct transactions more often than once a week if it considers it warranted.
  
  Market conditions determine whether the Bank offers loans or term deposits to financial institutions. As a general rule, the Bank does not offer both loans and deposits at the same time.
  
  Financial institutions’ liquidity position can change radically from day to day, due in large part to activity by the Treasury. Monthly wage payments increase the amount of krónur in circulation, and payments of withholding tax, value-added tax, and other taxes and levies to the Treasury reduce it.

• Policy instruments
  The Central Bank’s policy instruments are the measures or transactions that can affect the behaviour of its counterparties in connection with defined objectives. References to the Bank’s policy instruments most often include reserve requirements and transactions conducted by the Bank. Sometimes, policy instruments are not used for several years, yet they remain available if needed.
  
  Seven-day term deposits
  
  On Wednesdays, the Bank offers seven-day term deposits. The interest rate on the deposits is 0.25 percentage points higher than the current account rate. The deposits mature in seven days and cannot be withdrawn during that period. Term deposits may be used as collateral for payment system accounts and overnight loans. After the market close on Tuesdays, the Central Bank announces the amount on offer the following day. Counterparties wishing to participate in the auction submit bids, subject to a maximum of 60% of the total amount available. If submitted bids exceed the total amount on offer, the bids are reduced pro rata. Seven-day term deposits have been offered on a weekly basis since May 2014.
  
  One-month term deposits
  
  The Central Bank also offers one-month term deposits on the first Wednesday of each month. The structure is much the same as that for seven-day term deposits. Central Bank counterparties may submit bids to the Bank if they wish to participate in auctions of term deposits. The Bank notifies counterparties of the total amount available and the maximum bid amount. Participants submit bids specifying amount and interest rate. All participants in the auction are allocated amounts at the interest rate accepted for each auction. Bids featuring interest rates above the accepted rate are rejected. One-month term deposits have been offered since June 2014.
  
  Reserve requirements
  
  The Central Bank imposes minimum reserve requirements on its counterparties. The reserve requirements are subject to the Rules on Minimum Reserve Requirements, no. 585/2018, which entered into effect on 4 June 2018. Reserve requirements are satisfied via financial institutions’ reserve accounts with the Central Bank. The reserve base on which the minimum reserve requirement is calculated comprises deposits, plus bonds with a residual maturity of two years or less and issued by the financial institution concerned. The calculation is based on the average reserve base for the two months immediately preceding. The reserve amount is the minimum daily average balance — part of it a fixed amount and part of it an average maintenance amount — that an entity subject to reserve requirements must maintain over the reserve maintenance period, which extends from the 21st day of each month through the 20th day of the month immediately following.
  
  The reserve requirement is currently 2% of the reserve base and is divided into two parts. The fixed reserve requirement amounts to 1% of the reserve base and is non-remunerated; i.e., it bears no interest. The fixed reserve requirement obliges entities subject to minimum reserve requirements to hold a minimum amount in a separate reserve account with the Central Bank at all times. The average reserve requirement is 1% of the reserve base, and it bears interest as determined by the Bank’s Monetary Policy Committee. Average fulfilment allows financial institutions to adjust the fulfilment of their reserve requirements to short-term changes in their payment flows. But this does not change the fact that, over the maintenance period, a specified minimum balance must be held in the reserve account with the Central Bank – a balance that the institution would otherwise have been able to allocate to other uses.
  
  Foreign exchange market transactions
  
  
• In keeping with the declaration on the inflation target from 2001, foreign exchange market intervention is employed only if the Central Bank deems it necessary in order to promote the attainment of the inflation target or considers exchange rate fluctuations a potential threat to financial stability. Since May 2013, when the Central Bank Monetary Policy Committee announced a policy of increased intervention in the foreign exchange market, the Bank has been an active participant in the market. With its intervention in the foreign exchange market, the Central Bank trades with market makers. If the Bank buys foreign currency, the amount of krónur owned by market makers increases, and if the Bank sells currency the amount of krónur owned by market makers decreases. As a result, frequent foreign currency purchases affect the Bank’s market activities. The Central Bank publishes interbank foreign exchange market turnover figures here.
  
  Other policy instruments
  
  The Central Bank has other policy instruments at its disposal, chiefly to include the following:
• For quite a while, collateralised seven-day loans were the Bank’s main policy instrument. The interest rate on such loans is at the centre of the interest rate corridor. The Bank may grant loans for both shorter and longer periods, but all loans that it grants are collateralised, as the Bank may not loan funds except against collateral in securities that it deems acceptable.
• Repurchase agreements (often called repo transactions) are agreements between two parties concerning the purchase or sale of securities. Securities eligible for repo transactions are the same as those that are eligible for Central Bank loan facilities. A repo agreement has a predetermined maturity date, at which time the transaction is reversed. The Central Bank has not engaged in such transactions.
• Certificates of deposit (CDs) are securities that the Central Bank can issue and sell to counterparties. CDs are issued in dematerialised form by a securities depository. The terms are determined for each issue. CDs have been issued both before and after autumn 2008.
• According to Article 8 of the Central Bank Act, no. 36/2001, the Bank may purchase or sell Government-guaranteed securities or other sound securities in the secondary market in order to achieve its monetary policy objectives.
• The Central Bank and the Treasury.
  It is stated in the Central Bank Act that the Bank is the commercial bank for the Treasury. The Treasury and various other Government institutions may hold current account with the Central Bank. Interest rates on Government institutions’ current accounts are the same as those on financial institutions’ current accounts with the Central Bank. The Treasury is prohibited from overdrawing its accounts with the Central Bank.

Below is a list of the securities that the Central Bank deems eligible for use as collateral for transactions with the Bank, pursuant to the Rules on Central Bank of Iceland Facilities for Financial Undertakings, no. 553/2009:

Eligible securities

Below is a list of the securities that the Central Bank deems eligible for use as collateral for participation in payment systems, pursuant to the Rules on the Real-Time Gross Settlement System, no. 703/2009:

Eligible securities for payment systems

In determining the value of securities as financial collateral for Central Bank facilities, a haircut shall be calculated on the reference price in accordance with the following table:

*When using own bonds a 3% extra haircut is added

For overnight loans, the haircut is always 10% of the market value of the underlying collateral. If necessary - for example, due to market conditions - the Central Bank my calculate further deductions. The Central Bank reserves the right to reject an application for a facility if no agreement is reached on the valuation of collateral.