ANALYSIS: There have been some small, almost inconsequential, cuts in bank mortgage interest rates in recent weeks as banks reacted to a fall in the cost of wholesale borrowing. For instance, whereas three months ago it cost a bank 5.65% to borrow money at a fixed rate for two years the rate now is near 4.7%. That’s a decline of almost one percentage point.
Back in mid-October the best fixed mortgage rate on offer from a major bank was 6.99%. It is now about 6.89%. The margin which banks earn for their fixed rate lending has blown out from 1.35% to near 2.2%, with the average for the past two years sitting at 1.4%. That’s a lot of extra money now being shipped off across the Tasman.
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Why haven’t the banks passed on this cost reduction? There are a number of reasons. First, some fixed rate lending is financed through term deposits and those rates have not fallen at the same rate as wholesale borrowing. Second, margins have been somewhat constrained in recent times, so there is an element of catching up on lost profits in play – which is nice if you’re in business and can get away with it.
Local wholesale borrowing costs are heavily influenced by the same term borrowing costs in the United States, as is the case for most countries.
Optimism about the direction of US inflation has soared in recent months and the markets are factoring in as many as five interest rate cuts in the US this year, although the Federal Reserve has pencilled in about three.
However, this still doesn’t explain why New Zealand lenders haven't slashed their mortgage rates. The answer is that the Reserve Bank has made it clear to the banks - partially in public but mainly behind closed doors - that it dooesn't want the fall in rates offshore to feed through to lending rates in New Zealand just yet.
Independent economist Tony Alexander: "We have plenty of indicators in hand telling us that the path for inflation now is down. But the speed of decline is a pure guessing game." Photo / Fiona Goodall
The Reserve Bank remains deeply concerned about inflation in New Zealand – still 5.6% - and the speed with which it will decline. We have plenty of indicators in hand telling us that the path for inflation now is down. But the speed of decline is a pure guessing game.
For instance, we can reasonably expect the pace of wages growth to radically slow fairly soon because businesses are finding it easier to source labour now than at any other time in the past 14 years. But there are still well-above average proportions of businesses saying they plan to raise their selling prices.
We can also all see around us that some of our key household costs are continuing to rise firmly. Local authority rates are increasing at well above the inflation rate, with councils saying we face years of such increases. Insurance costs are soaring, construction costs continue to rise, and the cosy relationship between our two main supermarket companies means grocery prices are elevated and unlikely to ease in the near future.
Throw in new worries about global oil prices and disruptions to supply chains and we get strong justification for our central bank telling banks directly and indirectly that there must not be a strong round of mortgage rate reductions in the near future.
At some point the Reserve Bank will capitulate. But we may be months away from that. Until then we are likely to see just small tweaking downward of mortgage rates before some strong reductions occur maybe towards the middle of the year as a current best guess.
- Tony Alexander is an independent economics commentator. Additional commentary from him can be found at www.tonyalexander.nz
