The latest credit aggregates from the RBA to June 2017 shows continued home lending growth, up 0.5% in the month, or 6.6% annually. Business lending rose 0.9%, or 4.4% annually, and personal credit fell 0.1% or down 4.4% over the past year. However, they changed the seasonally adjusted assumptions, so it is hard to read the true picture, especially when we still have significant reclassification going on. In original terms housing loans grew to $1.69 trillion, another record.
Investor home lending grew 0.5% or $3.13 billion, but this was adjusted down in the seasonal adjusted series to 0.2% or $1.13 billion. Owner occupied lending rose 0.9% or $9.83 billion in original terms, or 0.7% or $7.34 billion in adjusted terms. Business lending rose 1.2% of $11 billion in original terms or 0.9% of $7.61 billion in original terms. The chart below compares the relative movements.
The RBA says:
Historical levels and growth rates for the financial aggregates have been revised owing to the resubmission of data by some financial intermediaries, the re-estimation of seasonal factors and the incorporation of securitisation data.
… so here is another source of discontinuity in the numbers presented! The movements between original and seasonal adjusted series are significant larger now, and this is a concern. We think the RBA should justify its change of method. Once again, evidence of rubbery numbers!
The annualised growth rates highlight that investor lending is still strong relative to owner occupied loans, business lending recovered whilst personal finance continued its decline.
The more volatile monthly series show investor loans a little lower, while owner occupied loans rise further, and there is a large inflection in business lending.
We need to note that now $55 billion of loans have been reclassified between owner occupied and lending over the past year – with $1.3 billion switched in June. This is a worrying continued trend and raises more questions about the quality of the data presented by the RBA.
Following the introduction of an interest rate differential between housing loans to investors and owner-occupiers in mid-2015, a number of borrowers have changed the purpose of their existing loan; the net value of switching of loan purpose from investor to owner-occupier is estimated to have been $55 billion over the period of July 2015 to June 2017, of which $1.3 billion occurred in June 2017. These changes are reflected in the level of owner-occupier and investor credit outstanding. However, growth rates for these series have been adjusted to remove the effect of loan purpose changes.
Finally they tell us:
All growth rates for the financial aggregates are seasonally adjusted, and adjusted for the effects of breaks in the series as recorded in the notes to the tables listed below. Data for the levels of financial aggregates are not adjusted for series breaks. The RBA credit aggregates measure credit provided by financial institutions operating domestically. They do not capture cross-border or non-intermediated lending.
So, given the noise in the data, it is possible to argue that either home lending is slowing, or it is not – all very convenient. The APRA data we discussed earlier is clearly showing momentum. Growth is still too strong.
It also makes it hard to read the true non-bank growth rates, but we think they are increasing their relative share as some banks dial back their new business. Taking the non seasonally adjusted data from both APRA and RBA we think the non-bank sector has grown by about $5 billion in the past year to $115 billion. APRA will need to have a look at this, under their new additional responsibility, as we suspect some of the more risky lending is migrating to this less well regulated sector of the market.
The revelation that Australian consumers are using card payments more often than cash is a worry because of a lack of fee transparency, an expert has warned.
The Reserve Bank of Australia reported this week that 52 per cent of all transactions are card payments, with only 37 per cent by cash.
Three years ago, cash was 47 per cent and card only 43 per cent.
Cash payments were most common for fast food, cafes, restaurants, bars and pubs, and least common for holidays and household bills. And the biggest users were Australians aged 50 to 65, and those in the bottom half of the income bracket.
Professor Rodney Maddock, a researcher at the Australian Centre for Financial Studies, said the transition to cards is premature because the current system is “wasteful” and “a mess” compared to cash.
“Most people have got no idea of the true cost they’re incurring when they use a credit card or a debit card or Eftpos or BPay. The current system makes it really, really hard for anybody to understand that,” he told The New Daily.
“Some of the fees are paid by the user, some by the merchant and some by the banks. It’s completely opaque.”
How the system works is that banks charge merchants ‘interchange fees’ for every credit or debit card payment they accept. The merchants claw back this money with surcharges (‘If you buy less than $15, we charge you $2’) and with higher prices across their stores.
The banks keep a percentage of these fees, pay a slice to the credit card company whose logo is on the card (probably Visa or Mastercard), and give the remainder as perks to rewards card holders.
Then customers must factor in annual fees and rates of interest charged by their banks.
In a recent paper, Professor Maddock and a colleague called for card holders to be treated the same as ATM users. A message should flash up on the screen asking the card holder if they were willing to pay the fee, they wrote.
“We want all of those costs to be transparent to the customer, because they are paying too many different ways. It’s too hard to tell as a customer what in the hell you are doing.”
Another academic, Professor Steve Worthington at Swinburne Business School, a researcher on the global payments sector, agreed that card fees are “incredibly opaque, incredibly not well understood”.
His particular concern was that consumers might not realise credit card rewards programs have recently been “devalued”.
“It is a very open question if they are worth it in any way, shape or form,” Professor Worthington told The New Daily.
Mozo, a financial product comparison website, has estimated that the average credit card spend required to earn $100 is now $22,426 a year, up from $18,765 in 2015 – and that the average customer would need to spend $60,000 a year on their card to make it worthwhile.
Rewards programs are being devalued because of new Reserve Bank regulations designed to improve transparency by putting caps on interchange fees.
Professor Maddock said the changes have not simplified card payments enough.
“The Reserve Bank has got itself into an awful mess having to regulate lots of different points in the system. It would be a lot simpler if they just regulated at one point.”
Mike Ebstein, a payments consultant and former second-in-charge of credit cards at ANZ, disagreed that card payments are inferior to cash. He said the advent of cards was a “quantum leap in convenience and security”.
“It’s baloney. There is a huge cost to the economy from the cash transactions that remain,” he told The New Daily.
“Merchants that accept cash don’t get value until they bank, there’s shrinkage, there’s pilferage, there’s security.
“Most advanced economies around the world are promoting the transition away from cash towards card payments, which are much more trackable.”
The Australian government has commissioned a taskforce headed by former KPMG chair Michael Andrew to investigate the ‘black economy’. It is widely expected to recommend further curbs on cash payments.
On of the drivers of mortgage stress, which continues to rise, is flat and falling income growth. This phenomenon is hitting other economies too, such as the UK.
So, today’s speech from RBA Governor Philip Lowe is timely – The Labour Market and Monetary Policy. This speech covers trends in employment and wages in Australia, and the impact of these on monetary policy decisions. It describes developments in the labour market in Australia, including the growth of employment in the services sector, and in part-time jobs. The speech then explores the reasons behind subdued wages growth in Australia and other advanced economies, and the challenge this poses for monetary policy. It restates the Bank’s approach to making monetary policy decisions within the framework of a medium-term inflation target, in way that supports sustainable economic growth and serves the public interest.
He makes the point that if some of the long standing links between income growth and monetary policy are not working as they did, more monetary stimulus may encourage investors to borrow to buy assets, which poses a medium-term risk to financial stability.
In comments after the speech, he also made the point that surging asset prices has led to a growth in inequality across Australia.
Whilst unemployment looks reasonable,
… under utilisation is a real issue.
The persistent slow growth in wages is creating a challenge for central banks. It is contributing to an extended period of inflation below target. In years gone by, the more standard challenge was to keep wage growth in check, so as to stop upward pressure on inflation, which could lead to restrictive monetary policy. No advanced economy faces this challenge at present.
It is possible that things could change in the not too distant future, particularly in those countries at, or near, full employment. It may be that the lags are just a bit longer than usual. If so, we could hit a point at which workers, having had only modest pay increases for a run of years, decide that it is time for a catch-up. If such a tipping point were reached, inflation pressures could emerge quite quickly. In this scenario we could see a period of turbulence in financial markets, given that markets are pricing in little risk of future inflation.
This scenario can’t be completely discounted. It would seem, though, to have a fairly low probability in Australia, especially in light of the continuing spare capacity in our labour market. The more likely case here is that wage growth picks up gradually as the demand for labour strengthens.
Globally, an alternative scenario is that the period of slow wage growth turns out to be much more persistent, partly for the reasons that I discussed earlier. In this scenario, wages growth eventually picks up, but it takes quite a while longer. If so, inflation stays low for longer, although there are other factors that could push inflation higher.
This scenario is one in which the Phillips Curve is flatter than it once was. It is one in which inflation is harder to generate. We can’t yet tell though whether the Phillips Curve in Australia has become flatter, given that we have experienced relatively little variation in the unemployment rate over recent times.
The combination of a flatter Phillips Curve and inflation below target raises a challenge for central banks: how hard to press to get inflation up?
For a central bank with a single objective of inflation, the answer is relatively straightforward. Inflation is too low, so you do what you can to get inflation up. If inflation doesn’t increase, you need more monetary stimulus.
This approach does carry risks, though. A flatter Phillips Curve means that the monetary stimulus has relatively little effect on inflation, at least for a while. At the same time, however, the monetary stimulus is likely to push asset prices higher and encourage more borrowing. Faced with low inflation, low unemployment and low interest rates, investors are likely to find it attractive to borrow money to buy assets. This poses a medium-term risk to financial stability.
A research discussion paper from the RBA – “How Australians Pay: Evidence from the 2016 Consumer Payments Survey” – provides further evidence of the migration to electronic and digital payment mechanisms, but also underscores that cash remains a critical payment mechanism for many, especially in the older age groups. Given the fast adoption of mobile payments, the 2016 data will already be out of date!
Using data recorded information on around 17 000 day-to-day payments made by over 1 500 participants during a week, the report shows that Australian consumers continued to switch from paper-based ways of making payments such as cash and cheques, towards digital payment methods (particularly debit and credit cards). Cards were the most frequently used means of payment in the 2016 survey, overtaking cash for the first time. Contactless ‘tap and go’ cards are an increasingly popular way of making payments, displacing cash for many lower-value transactions.
Despite these trends, cash still accounts for a material share of consumer payments and is intensively used by some segments of the population.
Payments using a mobile phone at a card terminal are a relatively new feature of the payments system and this technology was not widely used at the time of the survey. However, consumers are increasingly using their mobile phones to make online and person-to-person payments. Similarly, consumers are using automatic payments, such as direct debits, more frequently.
Speaking at CEDA today, RBA Deputy Governor Guy Debelle seemed to be intent on hosing down expectations of interest rate rises (in stark contrast to the RBA minutes earlier this week). He suggests that even if the Fed continues to lift their benchmark rate, it does not automatically follow we will see a rise here in Australia.
The neutral interest rate provides a benchmark for assessing the current stance of monetary policy. If the real policy rate – that is, the cash rate less inflation expectations – is below the neutral rate, then monetary policy is exerting an expansionary influence on the economy. If the real policy rate is above the neutral rate, then monetary policy is exerting a contractionary influence on the economy. The neutral rate is often associated with the turn of the 20th century Swedish economist Knut Wicksell and was picked up by Keynes. The previous Governor Glenn Stevens discussed the neutral rate in the Australian context more than a decade ago.
There was a discussion of the neutral rate at the most recent Board meeting, as detailed in the minutes of the meeting released earlier this week. No significance should be read into the fact the neutral rate was discussed at this particular meeting. Most meetings, the Board allocates some time to discussing a policy-relevant issue in more detail, and on this occasion it was the neutral rate.
The neutral interest rate aligns the amount of saving and investment in the economy at a level that is consistent with full employment and stable inflation. That is, the neutral rate is where the policy rate would settle down in the medium term when the goals of monetary policy are being achieved. Accordingly, most explanations of the neutral interest rate start with the factors that influence saving or investment. Developments that increase saving will tend to lower the neutral interest rate; developments that increase investment will tend to raise the neutral interest rate.
There are three main factors that, in my view, affect the neutral rate in Australia:
the economy’s potential growth rate
the degree of risk aversion
international factors.
One of the major determinants of the neutral interest rate is the economy’s potential growth rate. In an economy with a high potential growth rate, because it has strong productivity or population growth, the expectation of increased future demand provides a strong incentive for firms to invest and the prospect of higher real incomes reduces the incentives of households to save. Both of these forces will tend to raise the neutral interest rate. The economy’s potential growth rate tends to evolve quite slowly, and hence we should expect the neutral interest rate also to change only very gradually as a result of this influence.
Another influence on the neutral rate is the risk appetite of firms and households and the way risk has been priced into market interest rates. This influence can move rapidly. When risk aversion rises, firms require more compensation to make long-term investments with an uncertain return. At the same time, the increased risk aversion will cause households to save more. This lowers the neutral interest rate, as any given level of the policy rate is less expansionary because of the increased risk aversion. If there is an increase in risk aversion, it is also likely that there will be a widening in the spreads between the policy rate and market interest rates that determine the behaviour of households and firms. A given market interest rate will correspond to a lower policy rate if spreads widen. This will further lower the neutral interest rate.
Finally, in an open economy, where capital can move reasonably freely across borders, global interest rates will also influence domestic interest rates. This means that trends in overseas productivity growth, demographics and risk appetite will affect the neutral interest rate in Australia.
So how do we calculate the neutral interest rate? It is not directly observable. There are a number of different ways of estimating it from the behaviour of market interest rates and other economic variables. The shaded area in Graph 4 shows a range of plausible estimates for the neutral real interest rate obtained using a number of different approaches. As you can see, there is a reasonable amount of uncertainty about the exact level of the neutral rate.
Graph 4 also shows the (ex post) real cash rate calculated by deducting the trimmed mean inflation rate from the cash rate. When the real cash rate is above the neutral rate, the monetary policy stance is contractionary. When it is below, the stance is expansionary. As you look at the graph, you can see that this lines up with most assessments of the stance of monetary policy over the past 25 years. It suggests that monetary policy was clearly expansionary in the early 2000s, in 2008 and for the past five years or so.
Graph 4
The estimates of the neutral rate suggest that it was fairly stable for much of the 1990s up until 2007. In Glenn Stevens’ speech that I mentioned earlier, he noted that the neutral real cash rate at the time (2004) was probably somewhere between 2½ per cent and 3¾ per cent. This is consistent with the estimates shown here.
The graph shows a clear step down in all the estimates of the neutral rate in 2007/08 and that it has probably drifted lower since. It suggests that Australia’s neutral interest rate is currently around 150 basis points lower now than in 2007. This decline can largely be accounted for by a slowdown in potential growth and an increase in risk aversion.
The Bank estimates that Australia’s long-run potential growth rate has declined by around ½ percentage point from the mid 1990s. Part of the decline reflects slower labour force growth. The rest of the decline reflects a slowdown in trend productivity growth, which is common to many advanced economies. This slowdown in potential growth has probably translated about one-for-one into a decline in the neutral rate, though the decline has been gradual.
The sharper decline in the neutral rate in 2007/08 can be most easily related to the sharp increase in risk aversion with the onset of the financial crisis. This increased risk aversion probably accounts for most of the large fall in estimated neutral interest rates in Australia and abroad that occurred at this time. This heightened risk aversion has also contributed to an increase in spreads between the cash rate and market interest rates, which should have a roughly one-for-one effect on the neutral interest rate.
At the same time, increased risk aversion means that companies are investing less than one would expect given financing conditions and the economic outlook. Households are less willing than in the past to borrow in order to fund consumption. Although these effects are hard to quantify, they would both lower the neutral interest rate.
To return to a global perspective, Graph 5 compares the average estimate of the neutral interest rate for Australia to a range of international estimates. On average, the neutral interest rate estimates for Australia are similar to those of the United Kingdom and Canada, but higher than those for the United States and the euro area.
As is the case for Australia, estimates of neutral interest rates in other developed economies were fairly stable until around the mid 2000s and have fallen since then. The decline in the neutral rate was particularly sharp in 2007/08 and, again, most likely reflects the increase in risk aversion at the onset of the financial crisis.
Graph 5
Because trends in determinants of the neutral interest rate, such as productivity growth and risk appetite, tend to be highly correlated across advanced economies, it is hard to distinguish between international influences and domestic influences. But it is very likely that global factors have contributed to a decline in Australia’s neutral policy rate.
So in short, the policy rate in Australia is low because the neutral rate is lower than it used to be as a result of both international and domestic developments. This means that the current (nominal) cash rate setting of 1½ per cent today is not as expansionary as a cash rate of 1½ per cent would have been in the 1990s or the first half of the 2000s.
Looking ahead, the neutral policy rate both here in Australia as well as in other advanced economies is likely to remain lower than it was in the past. It is plausible that the degree of risk aversion might abate in time, which would see the neutral rate rise from its current low level. But other developments contributing to the lower neutral rates, particularly lower potential growth rates, could be more permanent.
The chart below from JP Morgan underlines the dramatic shift seen in rate hike expectations following the release.
Source: JP Morgan
Using Australian overnight index swaps (OIS), it shows that markets are now close to fully priced for a rate hike by the middle of next year.
Quite a shift, helping to explain the surge in the Australian dollar and bond yields over the past 24 hours.
The upbeat tone of the minutes, in stark contrast to the July monetary policy statement released two weeks earlier, along with a discussion among board members as to the neutral policy level for interest rates in Australia, saw some jump to the conclusion that the RBA was priming markets for an increase in interest rates.
Looking at the scale of the market reaction, it’s clear many adopted just such a view.
While some think it’s a game-changer, Sally Auld, chief economist and head of Australia and New Zealand fixed income and FX strategy JP Morgan, does not share that view, suggesting that markets have jumped the gun in pricing in a hawkish shift from the RBA.
Here’s a snippet from a report she released today outlining four reasons why, in her opinion, markets got a little ahead of themselves:
First, it should be remembered that the RBA delivered a strong refute to expectations that it was shifting in a more hawkish direction just two weeks ago. It is not clear that enough has changed for the RBA to warrant a shift in emphasis so soon.
Second, even assuming that the RBA wanted to signal something different from the July Statement, was a paragraph on the neutral rate estimate in the minutes the way to execute this change in message? We doubt it.
Third, we should note that the agenda for RBA Board meetings often includes items for discussion that are not directly related to the assessment of economic conditions in the past month. This is particularly the case for the RBA Board, which unlike other central banks, is not comprised of professional economists. Rather, the majority of RBA Board members are usually drawn from business, and hence there is sometimes a need to “educate” Board members on theoretical topics that are related to economics and monetary policy. In this context, the discussion around the neutral rate doesn’t look so unusual.
Fourth, the conclusion that policy is already accommodative is not “new news”. The RBA has made such an assertion every month in the minutes since May this year.
A pretty solid critique of the market’s interpretation if there ever was one.
While the tone of the minutes was certainly more upbeat on the outlook for the economy and labour market conditions than the abbreviated policy statement, outside of the those areas and the discussion on neutral policy settings, there really wasn’t all that much new to garner from the minutes, including that current settings are “clearly expansionary”.
Rates are, after all, at the lowest level on record, even with the neutral policy setting now far lower than what was the case in the past.
Looking ahead, Auld says we’ll find out soon enough as to whether or not the RBA intended to deliver a hawkish message.
“A test of our view will come with speeches from the deputy governor and governor in coming days,” she says.
“While it is typically not the RBA’s ‘style’ to micro-manage unwanted market reactions — the AUD is not yet meaningfully overvalued and the RBA might welcome renewed talk of hikes as another way to jawbone an overextended housing market — we don’t expect either speech to validate current market pricing and anticipate that RBA officials will push back hard on the perception that the central bank is on the cusp of starting policy normalisation.”
The Reserve Bank has scared heavily-mortgaged households and pushed the Australian dollar to its highest level in two years by appearing to signal interest rate hikes.
In the minutes of its July 4 meeting, released on Tuesday, Australia’s central bank said it now estimates the “neutral” official cash rate to be 3.5 per cent – a full 200 basis points above where the cash rate is now.
That effectively means the RBA thinks it can substantially increase the cash rate, currently at a record-low 1.5 per cent, without curbing economic growth. Banks can be expected to eagerly pass on any rate rises to borrowers.
Many RBA watchers interpreted the inclusion of the estimate as a strong hint the central bank is now ‘hawkish’ (inclined to lift rates), as it is highly unusual for it to discuss the “neutral” rate at a policy meeting.
Economist Stephen Koukoulas described the language as “aggressive”.
“RBA has just effectively tightened monetary policy: the 3.5 per cent neutral rate reference will see AUD go to the moon and [interest rate] hikes priced in,” he wrote on Twitter.
The Australian dollar jumped up higher after the minutes were released at 11:30am on Tuesday – a sign that investors interpreted the statements to flag rate rises. The Aussie strengthened against the US dollar from around 78 US cents to over 79 US cents by late afternoon.
James Glynn, senior economics reporter at the Wall Street Journal, described the minutes as “hawkish”.
“Talking openly about a 3.5 per cent neutral rate will allow RBA to assist APRA in doing a job on the housing market.”
The official cash rate has been at a record-low 1.5 per cent since August last year, as the central bank tries to help the Australian economy recover from the aftereffects of the global financial crisis 10 years ago.
This record low rate, followed more or less by the commercial banks, has helped jobs – but also ballooned house prices and household debt, especially in Sydney and Melbourne.
Another line in the RBA minutes suggested it knew full well what it was doing by publishing such a market-sensitive number.
“The implications of statements by central banks in the major economies for the future path of monetary policy had been a focus for financial market participants more recently,” the RBA board said.
However, there were sceptics.
Sally Auld, economist at JP Morgan, said the bank’s discussion of the neutral rate was unlikely to be “interpreted as some sort of signal”.
“We don’t think this is the case – after all, the discussion is sympathetic with the RBA’s consistent description of policy settings over the past year as accommodative,” Ms Auld wrote in a research note.
The RBA did note there was “significant uncertainty” around estimates of the neutral rate.
Other complicating factors were that the minutes explicitly said that “holding the accommodative stance of monetary policy unchanged” would be “consistent with sustainable growth in the economy and achieving the inflation target over time”.
This is where the RBA usually heralds interest rate rises.
Another reason to doubt the RBA’s intentions was that it said “developments in the labour and housing markets continued to warrant careful monitoring”.
All eyes will be on the release of the latest labour market figures on Thursday.
The spike in the Australian dollar after the release of the minutes, and the steady appreciation against the US dollar in recent days, are likely to worry the central bank.
This is because the RBA said in the minutes that an “appreciating exchange rate would complicate” Australia’s economic growth.
A number of interesting comments were contained in the RBA minutes for July, released today. Bank margins are increasing, and the next move in the cash rate is more likely up, not down (though complicated by exchange rates).
There was a decline in dwelling investment, a rise in household spending in April, after a fall in the first quarter, and a rotation from investment lending to owner occupied lending. The underemployment rate, which measures the number of part-time workers wanting to work more hours, had remained elevated.
“Auction clearance rates in Sydney and Melbourne had softened recently, suggesting that conditions in these markets had eased somewhat. Housing prices in Perth and apartment prices in Brisbane had fallen further. Members noted that there had been several periods in the preceding decade in which housing prices had fallen, or growth had slowed significantly, in different parts of the country”.
“Members discussed trends in the composition and cost of Australian banks’ funding. Deposits, which are generally a relatively low-cost form of funding, had increased as a share of funding over recent years, to around 60 per cent, while the share of debt funding, particularly at short maturities, had declined. The cost of both types of funding had declined further since late 2016. Members noted that, over the same period, banks’ lending rates had increased slightly, driven by increases in housing lending rates for investors and on interest-only loans. As a result, the implied spread between the estimated average outstanding lending and funding rates for banks was estimated to have increased slightly”.
“Members discussed the Bank’s work estimating the neutral real interest rate for Australia. The various estimates suggested that the rate had been broadly stable until around 2007, but had since fallen by around 150 basis points to around 1 per cent. This equated to a neutral nominal cash rate of around 3½ per cent, given that medium-term inflation expectations were well anchored around 2½ per cent, although there is significant uncertainty around this estimate. Members noted that some of this decline could be attributed to lower potential output growth, but the increase in risk aversion around the time of the global financial crisis was likely to have been a more important factor, given that the bulk of the decline in the estimated neutral real interest rate had occurred around that time. Estimates of neutral real interest rates for other economies had shown a similar decline. All estimates of the neutral real interest rate for Australia suggested that monetary policy had been clearly expansionary for the preceding five years or so. It was also noted that a reduction in risk aversion and/or an increase in the potential growth rate could see the neutral real interest rate rise again”.
“The pipeline of residential construction was expected to support dwelling investment over the forecast period. The economic outlook continued to be supported by the low level of interest rates. The depreciation of the exchange rate since 2013 had also assisted the economy in its transition following the mining investment boom. An appreciating exchange rate would complicate this adjustment“.
Given the recent strength of the dollar, this could put the cat among the pigeons!
The Reserve Bank may hold rates for as long as a year, but mortgage borrowers could be punished anyway by rising house prices and gouging by the banks.
Australia’s central bank held the official cash rate at 1.5 per cent for the tenth time on Tuesday. It hasn’t moved since a 25 basis point cut in August 2016.
But this hasn’t stopped the banks. They have refused to pass on the full benefit of the RBA’s record-low rates in order to offset costs and prop up profits.
Analysis by The New Daily of official data published on Tuesday showed that the gap between the RBA rate and the standard rate banks quote to mortgage borrowers is around the widest in 20 years.
RMIT economist Dr Ashton De Silva, an expert on the housing market, said it was “conceivable” that banks could widen this gap even further in coming months in response to rumblings in the global economy.
He pointed to the impact of Brexit and the Federal Reserve pushing up rates in the US as factors that could force Australian banks to pay more to borrow overseas and pass on the costs to owner-occupiers.
This spread between the official rate – which the RBA insists is still the “main driver” of bank funding costs – and the Standard Variable Rate banks quote to prospective customers is sitting perilously close to four percentage points, the biggest margin since 1994.
The SVR is higher than what most customers actually pay, but the gap is similar for discounted rates.
The good news for borrowers is that the RBA probably won’t hike rates for a few months more, according to the market.
The futures market is tipping rates won’t rise until next year, and even then, not by much. The ‘yield curve’ in that market shows rates are expected to reach about 1.75 per cent by November 2018.
But that’s not much relief if the banks push up rates in the interim in response to rising borrowing costs.
Martin North at Digital Finance Analytics said lenders were likely to continue penalising investors and interest-only borrowers, while leaving owner-occupier rates roughly where they are.
“Last year there was a massive race to the bottom in terms of discounts to try to gain volume and share. Many banks dented their margins in the process,” Mr North told The New Daily.
“They’ve now got the perfect cover, thanks to APRA’s regulatory intervention, and so I’d expected to see mortgage rates continuing to grind higher, particularly for investors and anyone on interest-only.”
The RBA’s cash rate may be the “main driver” of bank funding costs, but it’s not the only driver. Australian banks also borrow heavily in overseas money markets such as London and New York, where central banks are eyeing rate hikes, and from term deposits in Australia.
Owner-occupier mortgage rates are still lower than they were in 2011, when the RBA began cutting. Since then, the official cash rate has fallen by almost 70 per cent, from 4.75 to 1.5 per cent.
The problem for borrowers is that rising house prices (fuelled in part by low rates) are negating the benefits.
Rate cuts are supposed to give households more disposable income by reducing their mortgage repayments.
But interest is only half a mortgage. The rest is ‘principal’, which is being pushed up by higher property values, especially in Sydney and Melbourne.
This means the total amount of money we’re repaying to banks is high and staying high, despite what the RBA has been doing.
The Bank for International Settlements has estimated that the average Australian household spent 15.3 per cent of income on interest and principal repayments (a measure known as the ‘debt service ratio’) over the last three months of 2016, its latest estimate.
This is back to levels last seen in 2013, which means the benefits of low rates must be getting swamped by house price rises.
Australia’s debt service ratio is now third behind the Netherlands (17.4pc) and Denmark (15.9pc), putting us above a comparable economy like Canada (12.3pc) and well above bigger economies such as the USA (8.2pc) and United Kingdom (9.7pc).
The RBA held the cash rate again. They are it appears firmly on hold for the next few months, with little indication of if and when that might change.
Once again housing, and household debt got a run, but there was little which was new.
At its meeting today, the Board decided to leave the cash rate unchanged at 1.50 per cent.
The broad-based pick-up in the global economy is continuing. Labour markets have tightened further in many countries and forecasts for global growth have been revised up since last year. Above-trend growth is expected in a number of advanced economies, although uncertainties remain. In China, growth is being supported by increased spending on infrastructure and property construction, with the high level of debt continuing to present a medium-term risk. The rise in commodity prices over the past year has boosted Australia’s national income.
Headline inflation rates, having moved higher over the past year, have declined recently in response to lower oil prices. Wage growth remains subdued in most countries, as does core inflation. Further increases in US interest rates are expected and there is no longer an expectation of additional monetary easing in other major economies. Financial markets have been functioning effectively and volatility has been low.
As expected, GDP growth slowed in the March quarter, partly reflecting temporary factors. The Australian economy is expected to strengthen gradually, with the transition to lower levels of mining investment following the mining investment boom almost complete. Business conditions have improved and capacity utilisation has increased. Business investment has picked up in those parts of the country not directly affected by the decline in mining investment. At the same time, consumption growth remains subdued, reflecting slow growth in real wages and high levels of household debt.
Indicators of the labour market remain mixed. Employment growth has been stronger over recent months. The various forward-looking indicators point to continued growth in employment over the period ahead. Wage growth remains low, however, and this is likely to continue for a while yet. Inflation is expected to increase gradually as the economy strengthens.
The outlook continues to be supported by the low level of interest rates. The depreciation of the exchange rate since 2013 has also assisted the economy in its transition following the mining investment boom. An appreciating exchange rate would complicate this adjustment.
Conditions in the housing market vary considerably around the country. Housing prices have been rising briskly in some markets, although there are some signs that these conditions are starting to ease. In some other markets, prices are declining. In the eastern capital cities, a considerable additional supply of apartments is scheduled to come on stream over the next couple of years. Rent increases are the slowest for two decades. Growth in housing debt has outpaced the slow growth in household incomes. The recent supervisory measures should help address the risks associated with high and rising levels of household indebtedness. Lenders have also announced increases in mortgage rates for investor and interest-only loans.
Taking account of the available information, the Board judged that holding the stance of monetary policy unchanged at this meeting would be consistent with sustainable growth in the economy and achieving the inflation target over time.
Investor home lending grew 0.5% or $3.13 billion, but this was adjusted down in the seasonal adjusted series to 0.2% or $1.13 billion. Owner occupied lending rose 0.9% or $9.83 billion in original terms, or 0.7% or $7.34 billion in adjusted terms. Business lending rose 1.2% of $11 billion in original terms or 0.9% of $7.61 billion in original terms. The chart below compares the relative movements.
The RBA says:
The more volatile monthly series show investor loans a little lower, while owner occupied loans rise further, and there is a large inflection in business lending.
We need to note that now $55 billion of loans have been reclassified between owner occupied and lending over the past year – with $1.3 billion switched in June. This is a worrying continued trend and raises more questions about the quality of the data presented by the RBA.
