Last Friday, CBA made the first big move, slashing 40 points off their flagship basic variable rate while simultaneously raising all their major fixed rates. That was followed on Tuesday by Westpac hiking their 2, 3, 4, and 5-year interest rates.
When the Big Four sneezes, the rest of the industry gets a cold, so brokers need to be across the developments and, crucially, understand why they are happening.
With that in mind, Australian Broker spoke to John Kolenda, managing director and founder of aggregator Finsure, to get some background on the rapidly changing market conditions that have seen rates swing so dramatically.
Kolenda explained that the inverse correlation between interest rates and inflation – for short, when interest rates fall, inflation rises, and vice versa – was likely at the heart of the prognosis the banks are showing towards the prices they set.
The Reserve Bank of Australia (RBA) has said that it will not change the cash rate until 2024 at the earliest, essentially allowing inflation to happen to the point at which they need to slow it now, which is done by raising interest rates.
“If you look at underlying inflationary pressure, there’s a really good sign that something is happening,” said Kolenda. “If it’s starting to get out of hand, the RBA might be forced to review.”
“If you’re anticipating a strong rebound like we’re seeing in European, US and New Zealand markets, clearly the Treasury is going to be put under pressure to increase rates.”
“The bond market tends to price in anticipation of an increase in rates with escalating inflation, which appears to be happening globally.”
The second factor at play could be the price of money that banks need to raise via the bond market. Australia entered a new term funding period at the start of July, which was a commensurate rise in rates, and will enter another period at the end of February 2022.
“The RBA has done an exceptional job in supporting the economy through Covid and through its purchase of, via term funding, to support the banks,” said Kolenda. “That’s anticipated to finish in February next year.”
“I think what is going to happen over the next two to three quarters is inflationary pressure. If the RBA turns off the term funding facility, the banks still need to securitise billions of dollars through the bond market. If they’re already pricing in a rise, then the cost of funds will go up, which they’ll likely pass onto consumers.”
“In simplistic turns, what we need to look at if inflation. If you look at goods and services, there’s enough evidence out there that those prices have gone up. That is reflected in the inflation rates that are going to come out in the next couple of quarter as we move out of lockdown.”
“If that is the case, then something is going to happen. If the cash rate doesn’t move, it doesn’t necessarily mean that the other markets where the banks still need to find funding, such as the bond market, aren’t pricing a higher rate. That will cost them more, just via the sheer fact that if costs go up, they have to pass that onto consumers.”
“It could happen in the second or third quarter of next year, and it’s something that consumers need to be anticipating through these signs that are becoming evident.”
The process that we might expect to see in Australia is already taking place in other countries, said Kolenda.
“The American inflationary rate is exceptional, it’s really strong,” he explained. “In New Zealand, it’s reporting the same inflationary pressure, something in the 2s and 3s, which they weren’t forecasting. Clearly, there’s indications that consumers are confident and the prices of goods and services are going up.”
“That would largely indicate a rebound out of the Covid situation. What we’re going to see in our economy is a pretty strong recovery: with New South Wales out of lockdown and hopefully most states opening up later this year, consumers are sitting on a whole lot of savings.”
“We’re likely to see them want to get out and spend, and those factors play into the bond rates going up. The cash rate is 0.1%, but the banks have to securitise and sell off bonds, which the RBA has been doing for some months now.”
The price rises have already been seen, most notably at the petrol pump and in supermarkets. A rise in wages, a key factor set out by the RBA as something that needed to happen before the cash rate could move, also appears to be likely to follow too.
“The course that the RBA is taking has some merit,” said Kolenda. “I understand why they’ve outlined their plans. What I think will happen is that there will be underlying pressure for wage increases, because we haven’t been open to the world and net migration supports the growth of the economy.”
“There’s already pressure in certain sectors that are desperate to get people. That puts pressure on wages, which is the objective that the RBA set out. You’re likely to see salaries go up over the next 6-12 months, which was part of what they were trying to do.”
“If you look even now, a few restauranteurs have come out and said that they can’t operate at optimum levels because they can’t find staff. They’re asking for the borders to be opened up to allow migration back into the country.”
