RBA rings alarm on high debt levels
Risks to financial stability could be building as house prices and debt levels keep rising, the Reserve Bank has caution...
With June’s cash rate decision, the first movement in nearly three years, July could see the historically low rate fall even further. But in this current state of limbo, how low can our rates get?
According to comparison website Finder’s panel of 40 experts, 68 per cent believe the RBA will ease the cash rate on 2 July, and most believe it will not stop there.
Almost three-quarters of the panel, at 72 per cent, see it dropping to 0.75 per cent or lower, while nearly a third, at 32 per cent, see the cash rate reaching 0.5 per cent, with cuts predicted in August and November.
As a result, Finder’s insights manager, Graham Cooke, said lenders would be getting prepared for future rate cuts.
“The RBA will have its scissors out for the foreseeable future to try to stimulate inflation and reduce unemployment, and lenders should be ready to follow suit,” Mr Cooke said.
“The heat is on for those banks who only passed on a partial rate cut (less than 25 basis points) after the June rate reduction. Doing the right thing by their customers this time around – by passing on a cut in its entirety – could see them redeem themselves.”
With June’s rate cut down to 1.25 per cent, Mr Cooke said lenders moved relatively quickly to pass on some or all of the rate cut, with the average rate declining by over 20 basis points over the month.
“So far, we’ve seen more than 700 variable rate products reduced in June alone, with more than 1,000 rates reduced if you include fixed rate loans,” he said
“The winners here are borrowers – they are spoilt for choice with the lowest home loan rates we’ve ever seen.”
However, if the cash rate does drop, research analyst Cameron Kusher from CoreLogic could see lenders not pass on any rate cut for borrowers.
“Lenders are well within their rights to keep a portion of future rate cuts up their sleeve,” Mr Kusher said.
“Furthermore, the fact that banks have to consider mortgage-holders as well as savers is an important consideration.
“It is true that Australians are obsessed with housing. In no way is this better reflected by the fact that interest rate cuts are cheered because they lead to cheaper interest cost on our mortgages and interest rate rises are jeered because our repayments increase.”
However, Mr Kusher also pointed out that lower interest rates reflect a slower economy, low inflation and low wage growth requiring more stimulus, while higher interest rates reflect stronger inflation, stronger wage growth and an economy that is “overall too strong”.
He continued to reveal that RBA data to April 2019 revealed the value of deposits with authorised deposit-taking institutions (ADIs) was at $1.584 trillion, while the total value of outstanding mortgages was at $1.825 billion.
“Since this long interest rate cutting cycle began in November 2011, the cash rate has dropped from 4.75 per cent to 1.5 per cent in May 2019 with an additional 25 basis points of interest rate cuts delivered this month, taking the cash rate to 1.25 per cent,” he said.
“Over the current interest rate cutting cycle, mortgage interest rates to owner-occupiers have reduced by 218 basis points; however, the drop in savings and term deposit rates has been much greater.”
According to averages published by the RBA, Mr Kusher cited that for accounts holding at least $10,000, rates for:
“As this data shows, while on average the benefit of the reduction in mortgage interest rates to owner-occupier borrowers has been 218 basis points, the reduction in interest rates for savers has been significantly larger,” Mr Kusher said.
“Mortgages are a generally large and significant debt, so many view the drop in mortgage interest rates as more beneficial, especially with the increased use of mortgage offset accounts over recent years.
“However, with official interest rates as low as they are currently and savers having experienced much greater interest reductions than mortgage-holders, it could be argued there is currently little benefit in saving.”
Mr Kusher said while that might lead to more spending and would be good for the economy, a large proportion of the population relies on their savings or have little to no mortgage debt.
He also said that major banks are reliant on domestic deposits to fund mortgage lending, and the major banks account for most of mortgage lending.
“Very low interest rates discourage saving and over time could lead to a drop in domestic deposits and an increase in the requirement for lenders to increase their reliance on other sources of funding (such as offshore),” Mr Kusher said.
“Listed lenders also have a responsibility to their shareholders. Very low mortgage rates have the potential to further depress net interest margins. This increases the likelihood that future cuts to the cash rate may not be passed on in full and likely explains why the reduction to deposit rates have to-date been larger than the cuts to mortgage interest rates.”
If lenders do in fact pass on rate cuts in their entirety, those with or looking for a variable loan could see a jump in their savings, according to Mr Cooke.
“If the cash rate does get to 0.50 per cent, down from 1.50 per cent in May, and your bank were to pass on all of the four rate cuts in full, an average mortgage-holder could be saving nearly $3,000 a year on their mortgage,” he said.
“Of course you don’t have to wait around for these cuts to happen – you can go home loan shopping for a better deal anytime.
“It’s a borrower’s market. A new standard has been set with sub-3 per cent home loan rates, so compare options to maximise your savings in the long run.”
However, it is still a possibility that lenders could decide not to pass on rate cuts in their entirety, and investors should remember that those that have savings with banks are also involved in rate cut decisions.
“For the most part, the focus is on the benefit of lower interest rates for mortgage-holders; what is often forgotten in the conversation, and has been throughout the current rate cutting cycle, is how much lower interest rates hurt savers and disincentive saving,” Mr Kusher said.
“Given cuts to interest rates for savers have been much greater than cuts to interest rates for mortgage-holders and savers are not that much of a smaller cohort than mortgage-holders, it is reasonable for lenders to have greater consideration of the impact of the current ultra-low interest rates on this segment of the market.”