Banks to repay 7.9 billion euros of ECB crisis loans

FRANKFURT (Reuters) - Banks will return 7.91 billion euros ($10.71 billion) of crisis loans early to the European Central Bank next week, the ECB said on Friday, driving the amount of excess liquidity down and closer to the threshold where market interest rates could rise.

By repaying the ECB's crisis funds early, banks also reduce the level of excess liquidity - the level of cash beyond what they need to cover their day-to-day operations - in the system.

Excess liquidity is now at 215 billion euros, the lowest level since late 2011, shortly before the ECB flooded the market with more than 1 trillion euros in long-term refinancing operations (LTROs) to ease banks' funding strains.

After the repayment next week - the biggest amount since May - the level will fall further if banks do not increase their uptake in new liquidity operations.

Short-term money market rates are seen to rise closer to the main refinancing rate, currently at 0.5 percent, once excess liquidity in the system falls below a threshold estimated to be in the range of 100 billion to 200 billion euros.

The ECB is monitoring this development carefully as higher bank-to-bank borrowing costs could undermine the euro zone's fragile recovery.

The ECB has said it was ready to cut interest rates further or pump more cash into the system to bring them down if need be.

"We cannot rule out another LTRO to be launched in early 2014," said Annalisa Piazza, analyst at Newedge Strategy.

Banks took more than 1 trillion euros of three-year loans from the ECB in two LTROs in December 2011 and February 2012, of which the first matures in January 2015.

They now have the option to repay the loans early and have returned almost a quarter of the money already.

On Friday, the ECB said four banks would repay 2.650 billion euros from the first LTRO on September 25 and 5 banks will pay back 5.260 billion euros from the second LTRO.

A Reuters poll of euro money market traders had expected banks to return 2.5 billion euros next week.

(Reporting by Frankfurt newsroom)