It has now been 10 days since the Reserve Bank cut the Official Cash rate from 1.75% to 1.5%.
The Monetary Policy Committee decided to reduce its policy rate by 25 basis points (bps) "to support the outlook for employment and inflation consistent with its policy remit".
But of course, this is only effective if the official reduction flows through to the wider economy.
So, how much of this has flowed through, so far?
Well, we've had a detailed crunch of all the available information and have come up with a figure. I'll explain the methodology shortly.
The answer seems to be about only -11 bps.
This means financial intermediaries have passed on much less than half of that 25 bps cut.
In wholesale markets, 90 day bank bill rates have gone down -14 bps.
In wholesale interest rate swap markets, rates have fallen -15 bps for tenors one to five years, and about -20 bps for longer terms.
But little of that flows through to the real economy. That requires banks to change rates.
Our frame of reference is from mid April until mid May. (In mid April, there was little market expectation that rates would be cut at the May 8 meeting. Some chance was priced in, but most economists who thought a cut was due saw it coming later in the year. And we should note that most economists did not see a cut at May 8.)
All up there is $458 bln in interest-bearing bank debt in our economy and this is where the the policy rate cut needs to end up.
A -25 bps cut should stimulate the economy by $1.1 bln in a year. That is a lot of stimulus, equivalent to about +0.4% of our nominal $293 bln annual GDP - if it was all passed on.
But it isn't.
What follows is back-of-the-envelope figurings, designed to start a conversation to try and find the real wastage in the RBNZ policy rate cut.
| C5 | March 2019 | reduction | Impact |
| $ bln | bps | $ mln | |
| Mortgages from banks | 259.9 | -14.4 | -375 |
| Mortgages from others | 2.8 | -5 | 0 |
| Personal loans by banks | 3.9 | zero | 0 |
| Personal loans by others | 5.6 | zero | 0 |
| Credit card debt (all banks) | 7.3 | zero | 0 |
| Business lending by banks | 110.7 | -3 bps | -33 |
| Business lending by others | 4.8 | zero | 0 |
| Rural lending | 62.8 | -14.4 | -90 |
| ---------- | ---------- | ||
| All debt | $ 457.8 | $ 498 mln | |
| bln | -10.9 bps |
To calculate the mortgage impact, which is where most of it is, we didn't just compare home loan interest rate changes over the one month period straddling the official rate cut. We also weighted those changes over the floating and fixed terms. In addition, we weighted them by the size of the individual bank mortgage books. This means that big changes from a small bank have less of an impact than small changes from a big bank.
It was instructive to note that ANZ was one of the earliest to declare their hand, just moments after the RBNZ announcement.
This has the effect of allowing all the other and smaller banks the cover to also pass on only a fraction of the cut without worrying that they might be exposed by the largest mortgage lender hanging them out to dry.
Little or no benefit for credit card users and business customers
We have also observed that there have been no - that is zero - rate changes for credit cards. Ditto for other personal loans.
The rate changes we have seen in business base rates have been close to zero as well.
In the above table, we have applied the full mortgage rate reduction to rural lending, although this is likely to be an gross over-assumption. So we are being generous to the banks here.
Recall, we noted that a full -25 bps pass-through would stimulate the economy by $1.1 bln a year. But the banks are passing on only $500 mln of that. Much of the difference is because they are not cutting savings and deposit rates hard either. But wholesale markets have reduced -15 bps.
The difference between the wholesale reduction and the retail reduction in interest rates is 4.1 bps and that is worth about $200 mln per year in interest costs, or a bit less than 0.1% of GDP.
28 Comments
Central V Commercial. The Game of Banks.
I'd imagine there will quite a lot of toing & froing between these two sets of large organisations over the coming months. The big commercial banks have been running the cutter for a while now & the Aussie shareholders (including the Yanks) have been laughing all the way..... well, to the bank. Meanwhile, back in little land, a new governor has rattled the cages & is threatening to rewrite the legal requirements for the big 4, in case of a mishap down the way. The new guv is riding the Hayne Wave & has joined 'bash the big banks'' season hoping to retain some of the fat profits to the evil shareholders disappearing forever. This week saw little guv with his pawn to Queen Four. The response from the Big 4 was as stingy as you could get. Who will blink first? Make sure you tune in for next weeks exciting episode of The Game of Banks.
It is not a story or analysis about bank margins. It is a first attempt to see how much of the RBNZ's policy cut is flowing through. They cut for a purpose. If those policy goes don't work, it may be that not enough of the policy action made its way through to the real economy. If the desired impact isn't there, the RBNZ has two choices; do more, or try something else.
Sure.
Fair enough.
I, for one, am happy it hasn't been passed through.
It would have just propped up the housing market and increase moral hazard on borrowing.
Which the RBNZ has been stoking for the past decade (not all their fault, but they could have done far more to stop HPI on the way up).
I guess I was more taking exception to comments like "bah, typical banks not passing it through, rah, rah, rah, greedy, RAH!"
Because that's the main point some have chosen taken from this.
It appears deposit rates haven't changed, in which case the Banks have eroded NIM even though they've not taking the full cut.
So they have consciously decided to protect their deposit holders.
David,
I need some convincing that terms such 'flows through' or 'passed on' are the appropriate terms.
The official cash rate in itself has minor impact on the cost of funds for the banks, with most of their funds obtained through deposits.
I recall a Chatham House conversation quite some years back where the anonymous senior official acknowledged that setting the OCR was a delicate operation of nudging the financial system. Essentially it is a message to the rest of the banking system that this is the direction in which we think you should be heading. But if the OCR gets too far out of kilter from the commercial forces of supply and demand then nudging through the OCR becomes ineffective.
Perhaps there is a need for all of us to look more closely at government deficits, their funding, and quantitative easing as the key stimulatory tools.
Keith W
Quantitative easing is no more than an asset swap - banks exchange high grade portfolio assets for high grade inert central bank reserves, which are required to remain locked on the liability ledger to offset said assets. Banks etc hoarding government debt and the like to hedge against liquidity risk in an over levered financial system serve to lower term government debt interest rates to the levels we witness today.
Banks passing on the cuts ?
Dont bank on it
Or hold your breath .
In my limited understanding of bank funding these days , it appears that 'fixed ' mortgage funding is coming from offshore , while the floating rate is more closely aligned to the OCR .
Why , you may ask?
Well its a mystery to me , other than its an effort by banks at matching their loan book to deposits.
I have endlessly questioned the differential , and not really got any logical answers for this , although I do get that bank deposits are on demand and mortgages are up to 30 years , so there is a mismatch .
The cynic in me suspects we are being taken for a ride
Boatman. The cynic in you is right to conclude that we are being taken for a ride.
‘Matching lending to deposits’ is a myth as is the concept of 'net interest margin. Both designed to hoodwink the masses into thinking that banks are intermediaries of finance, rather than the creators of money..
Many see 'deposits' as being ‘customer deposits’ that you and I lodge with a bank in return for interest and that the banks are then intermediaries of our generosity and lend that out on a 'turn' That's what our current X-ers and the boomers in positions of authority were taught at university, sometimes clouded by the 'money multiplier' teachings at econ 101, maybe it was econ 202. All of it changed post Glass steigal... in the modern reality of banking there is actually little need for 'customer deposit' the banks make their deposits whilst issuing a loan, that is what creates the deposit, all neatly penciled in on the other side of the ledger as a ‘deposit’
I first questioned this in 2006/2007 when Northern Rock were making loans at 0.75% below the B of E base rate. How did they do this and still pay depositors 100bps above the B of E base rate? Off shore funding they said, that was true to maintain the liquidity for daily trading account balances but not really true in terms of their need for actual deposits when the balance sheet got too large.. Banks don't need much by way of 'customer deposit's to create the money supply.... just enough people still willing and able to take on the debt and keep it going up.....
The banks will be using the recent cut to build up for the inevitable increase in delinquencies that will come as we follow the Aussies. But a little at a time to maintain profits as long as possible whilst scrabbling for the better prospects.
To over simplify... While the lending creates a deposit and creates money, the proceeds of the loan still went to the vendor of said property. The 'matching deposit' does not go to the bank that made the loan, unless of course they happened to bank the vendor. Banks still need to maintain various ratios of deposits and loans and need to attract the funding.
Very little though and as a proportion of the total exposure of loans, completely negligible . There are not that many transactions that actually have to be cleared at the end of each day and balanced with the RBNZ The joys of lending for 30 years, creating the money to do it and having 30 years of 365 days for the deposit to slowly reduce on the ledger.. the challenge occurs if people start paying it back rather than taking it on. That’s when the capital buffer can collapse quite quickly - one of the reasons we’ve seen 100’s of banking failures and rescues over the last 50 years. They happen when housing debt stops being added to or when there is a bank run. Italy has had 4 bailouts in the last 3 years. Higher bank capital requirements are a must for NZ after a period where our local population has been frantically bidding against foreign debt. In the absence of that competition and with a slower creation of credit ahead of us, the risks have increased significantly to the genuine ‘depositor’. And as for the influence of the Aussies well that’s a whole different story of risk.
Joe:
You are quite wrong with that view. Customer deposits are very real. And our regulator requires banks, via the Core Funding Ratio, to have a minimum and high level.
The $200.4 bln that households have deposited at banks is very real for each household. Ditto for businesses and the Government. All up they add to $349 bln and that is more than 76% of all loans. 'Only' $108.7 bln is funded from elsewhere, of which $42 bln is shareholder capital. So only $67 bln comes from outside, just 15%.
I suspect you are confusing the quite different structures of some northern hemisphere insitutions ("Northern Rock", an example of a risky wholesale funded mortgage bank of the type that has never operated in this part of the world, and now defunct) and investment banks (typical in New York and London). These are quite, quite different to our local trading banks, especially how they are funded. More so how they are regulated.
Suggest you check this. Yes, money is 'created', just not in the conspiratorial way you suggest. There are strict system limits. It is a consequence of how the whole system works, not a secret ability of behind-the-scenes banker manipulation.
Net interest margin is no myth. Get it too low and any New Zealand bank will go broke.
Joe: you may wish to consider the words of a former RBNZ economist :-
Mitchell has it in for mainstream academic economics. Quite probably there is something in what he says about that. Between the sort of internal incentives (“groupthink”) that shape any discipline, and the inevitable simplifications that teaching and textbooks require, it seems highly likely there is room for improvement. If textbooks are, for example, really still teaching the money multiplier as the dominant approach to money, so much the worse for them. But as I pointed out to him, that was his problem (as an academic working among academics): I wasn’t aware of any floating exchange rate central banks that worked on any basis other than that, for the banking system as a whole, credit and deposits are created simultaneously. He quoted the Bank of England to that effect: I matched him with the Reserve Bank of New Zealand.
- Link
Furthermore, a Bank of England video recently posted by a commentator named Scarfie could prove to be illuminating.
Boatman - research it, youre better than being uninformed enough to think that a 25bps OCR cut reduces bank funding costs by 25bps. It doesn’t, although youre not helped by media that describes it such as “how much of the OCR cut as been passed on” - uninformed media or click bait, I’m not sure.
Yes, it's all looking a bit mean out there at the moment. You'd expect that competition would heat up soon, but maybe not. Ironically, one of the best recent 2 year offerings has now gone, HSBC's 3.69% special. Now back to 3.99. Dare I ask if anyone has had a go with the CCB? And are they actually a retail bank that will work with Joe Blogs Kiwi?
Given the nature of mortgages,(or other lending) of which the bulk are in 2year, , the effects on a rate cut are staggered thru the terms of the mortgages. The full pass thru of 25bps, or other would not give an instantaneous boost. The C35 reconciliation data certainly gives an idea of interest charged and the delayed effects of reducing lending rates.
However once netted out is there truly an economic boost as claimed.
Is the RBNZ simply caught in a self inflicted bubble.
Just received 3.3% on a 6 month Term Deposit at the BNZ yesterday so even rates there have not really changed. They have been 3.4% for about the last 12 months and just managed to get 3.5% before that. I have said it before, we don't own any of the major 4 banks so why would they care what the OCR is ? did someone spouting a drop actually affect their rate to borrow money ? nothing actually changed from the day before the new OCR to the day after did it ? There is a total disconnect between the reserve bank and the actual banks, its like a ship without a rudder, Orr is swinging the tiller about but nothings actually happening in the water.
As the market was largely pricing in the drop, wholesale rates dropped in advance of the announcement. This reduced fixed HL rates pretty heavily .. we have most terms as 3.XX%... while ALSO, as you point out, having fixed TD rates at 3.XX%... seems pretty competitive to me and if anyone can show OECD countries with tigher spread, I'd be interested.
Well, the government owns Kiwibank, and often they are at the sharp end when it comes to rates and leading the drops, so you'd think some pressure could be applied there. But then, the RBNZ isn't supposed to be working of the government, right, or do I have that wrong? Trump?
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