Funding pressure may see Australian commercial banks raise mortgage rates even though Reserve Bank of Australia won’t be increasing the official cash rate any time soon. Weak wage growth and lacklustre consumer spending have contributed to a lack of inflation in the Australian economy. This has been cited by the RBA governor, Philip Lowe, as the reason behind Australia’s period of record low interest rates since 2010.
The RBA cash rate is expected to remain on hold as a cocktail of both internal and external forces come to a head. Global monetary conditions are becoming more complicated and there is now a trade war wild card adding to the complexity. House prices in Sydney fell around 5% in the last financial year, the first annual decline since 2012. As house prices come under pressure and wage growth is persistently weak this exerts a negative pressure on consumer spending. According to the RBA, consumer spending accounts for around 60% of GDP in Australia so the negative effect further supports Governor Lowe's notion that "inflation might be just a bit lower than we would like for a while".
Add to the above, tighter lending standards and the Royal Commission into misconduct in the financial services industry, and in as little as two months rate hike expectations have fallen dramatically. Money markets are now only pricing an eight basis points rise in May 2019, two months ago a 25bps rate hike was fully priced in. Some economists are now forecasting the next move up in the official cash rate could be as late as 2020.
The real problem
But the real problem and cause for awareness comes as a widening differential between the official Reserve Bank cash rate and the cost of money for lenders emerges. Despite the official Reserve Bank cash rate remaining on hold at 1.5%, the bank bill swap rate has risen more than 40bps in recent months (equivalent to 1.6 25bps rate hikes). For the past ten years the gap between the official RBA cash rate and the BBSW has been close to 18bps, but it is now closer to 60bps.
As funding pressures rise banks and smaller lenders may be forced to raise home loan rates. This could put pressure on the RBA stimulus as 80% of Australian households carry floating rate debt at record levels of 200% of disposable incomes. Any increase in home loan rates will put pressure on consumer spending and therefore inflation, thus challenging Australia’s growth outlook.
Already, smaller lenders including the Bank of Queensland, AMP Bank and ME Bank, IMB, Greater Bank, Homestar Finance and AusWide, have responded to tightening money markets and increased funding costs by raising rates by up to 40 basis points to avoid eroding their profits. The big four banks are also under sustained financing pressure but are unlikely to raise lending rates out of cycle whilst the Royal Commission looms.
If the BBSW rates continue to diverge from the official cash rate this highlights a problem as the RBA’s monetary policy lays its foundations on maintaining a low benchmark rate until consumer spending and inflation picks up.