The European Central Bank said overnight deposits from financialinstitutions dropped by more than half to the lowest level inalmost seven months after policy makers stopped paying interest forthe funds.

Banks in the 17-nation euro region parked 324.9 billion euros($397.2 billion) at the ECB yesterday, down from 808.5 billioneuros the previous day, the Frankfurt-based institution said.That's the least since Dec. 21.

Financial institutions are no longer remunerated for the moneythey deposit at the ECB overnight after last week's interest-ratecuts took effect yesterday. Policy makers reduced the mainrefinancing rate on July 5 to a record low of 0.75 percent and cutthe deposit rate to zero to stimulate credit supply andlending.

“It's a miracle that banks used the facility at all,” ChristophRieger, head of fixed-income strategy at Commerzbank AG inFrankfurt, said in an interview. “Most banks are putting theirmoney into reserve accounts instead. There's no reason to believethat excess liquidity is declining.”

The ECB has flooded financial markets with more than 1 trillioneuros of cheap three-year loans to unlock credit. As a result,overnight deposits, a measure of excess liquidity in the system,surged and have hovered around 800 billion euros until earlier thisweek.

“I would not make too much of the levels that these deposits arereaching, because it is just a mechanical consequence of theliquidity creation,” ECB President Mario Draghi said on March8.

ECB Governing Council member Josef Bonnici said today's declinein overnight deposits is “encouraging.”

With last week's deposit-rate cut, “the ECB wants to encouragebanks to place less money with it,” Bonnici, who is also governorof the central bank of Malta, told reporters in Casablanca,Morocco, today. “The fact that the deposit rate was reduced to zeroprovides an incentive for banks to see what alternatives there areto increase their earnings. This may lead to greater borrowingespecially in some member states.”

Banks, which are remunerated for their reserve accounts withinterest equivalent to the main refinancing rate, tend to frontloadreserve-building at the ECB. That has in the past resulted in adrop of overnight deposits at the beginning of maintenance periods,a stretch of about a month during which banks are required to holda certain amount of reserves on average.

“Banks are likely to hit their regulatory reserve requirementsvery quickly, so the usage of the deposit facility is likely torise again in the coming days,” Thomas Costerg, an economist atStandard Chartered Bank in London, said in e-mailed comments.

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