Our term deposit rate is much higher than in similar developed countries, including Australia, the UK and Sweden. The deputy of the Reserve Bank of New Zealand (RBNZ) recently cited this as a reason the RBNZ had to do more to bring the interest rates down.
The RBNZ is our central bank. Central bankers the world over are terrified of something called deflation. This is when the general price levels in a country are falling – as opposed to inflation, which is when prices rise. In the words of Investopedia, “In an economy dominated by debt-fuelled asset price bubbles, deflation can lead to a temporary financial crisis and period of liquidation of speculative investment known as debt deflation.” This means the RBNZ will pull out all the stops to avoid it, and to help New Zealand get back on its feet.
What is the RBNZ?
This independent government body can be considered the ‘bank of the banks’. Its main role is to keep prices stable by controlling levels of inflation, which is how much prices go up over time.
To avoid confusion, note that Westpac performs the government’s banking, while Kiwibank is owned by the government.
The RBNZ sets the price that commercial banks must pay to borrow from it, and in doing so influences the rate that commercial bank customers receive (savers) or pay (borrowers). Commercial banks include Westpac, ANZ, Kiwibank, ASB, BNZ and others. While the RBNZ sets the interest rate, the rates of mortgages and saving rates for Kiwi families are also affected by money borrowed from offshore at global interest rates, which can be affected by a variety of international circumstances, such as elections in the USA.
Basically, the RBNZ helps the banks we all use set the rate of interest you gain on your savings, and how much interest you have to pay on a mortgage.
Negative interest rates
These are an extreme measure, never used here, now being openly discussed as a possibility for wholesale savers. That might mean some of the commercial banks’ wholesale customers – such as large corporations, financial institutions and government departments – could get a negative rate on their funds and have to start paying banks such as ANZ and Westpac for depositing those funds. At this stage, for Kiwi “mums and dads” – the usual retail bank user – interest rates on regular bank deposits shouldn’t go negative. In part, this is because in other countries where negative wholesale rates have occurred, deposit rates for households tended not to fall below zero.
That means people depositing money in banks should not have to pay banks to keep their cash. But at the same time, with deposit rates at zero or close to it, there would be little incentive for people to put or keep their money in the bank.
Other RBNZ tools
In addition to continually dropping wholesale interest rates, the RBNZ has already been “printing money” in the form of quantitative easing (QE). But they’ve acknowledged that has limits, and they’re ready to venture into new territory to keep the economy going.
So the RBNZ is also openly discussing a Funding for Lending Programme (FLP). They’re doing this to be sure that negative or very low interest rates would not cause problems for the banking system. The design of this programme is intended to make it as easy for the commercial banks as possible, so they can keep lending to support the economic recovery. The RBNZ are likely to launch the FLP next month, allowing banks to borrow from the RBNZ at close to 0.25% then “on-sell” that borrowing to businesses.
The RBNZ said it was still to determine how large its FLP would be, but according to the deputy, “it will be a substantial size”.
The RBNZ’s own view is that over the next three or so years inflation will be very low and the job market very weak.
The RBNZ has accepted that in bringing interest rates down further, housing and other asset prices such as shares will go up. In a strange way, that’s how such policies work – a consequence of rising wealth is that Kiwis go out and spend more. Lower interest rates should free up cash for spending (as people borrow more) and lower the hurdle for both businesses and households to borrow. This all stimulates the economy and keeps businesses afloat, which means more people stay employed.
Savers punished: Pundits are now picking six-month term deposit rates to slip under 1% by this Christmas. For those who have hoped to help support themselves on interest from investments this is all hugely problematic. If we consider a “typical” retired person on a 17.5% tax rate, a 0.9% term deposit rate has an after-tax yield of just over 0.74%. On a $10,000 term deposit that’s $74 each year in total after tax. Let’s also bear in mind that the current inflation rate is 1.5%. The after-tax rates of return on most one-year term deposits are already well below that, hovering around the 1% mark.
Borrowers celebrate: On the flipside, anyone repaying a mortgage – or about to take one out, such as first home buyers – might be celebrating!
In Australia, they’ve also scrapped the responsible lending laws. This makes lenders such as banks subject to less onerous oversight and red tape and marks a change from a “lender beware” approach to a “borrower beware” environment. This is to encourage the flow of loans to business and households to speed up the recovery from the COVID recession. As New Zealand often follows the Australian lead in such areas, it’ll be interesting to see if we follow suit in this area too. If we do, it could mean it’s easier for borrowers to get lending – watch this space!
Has the world gone crazy?
If you’re scratching your head trying to make sense of all of this, you’re not alone. Critics of negative wholesale interest rates and loose financial policies are starting to grow in number. In many cases they raise valid points, such as:
- For countries that have tried it, widespread money-printing has historically never ended well.
- Until recent history, never have savers been punished so badly for holding money in the bank.
- If negative interest rates were such a great idea, why weren’t they invented hundreds of years ago?
- Rapidly increasing asset prices, such as housing and shares, can increase the gap between the “haves” and “have nots”. This has social implications – especially in a place like New Zealand, where we like to think that everyone is roughly equal and has a fair shot at life, including home ownership.
While acknowledging the points above, we’re not economists, and even the most reputable economists might be running out of ideas. So, perhaps it’s best for us all to focus on how we adjust to make the most of the current environment, rather than fight against it.
“Don’t fight forces, use them”- R. Buckminster Fuller
Most commentators expect that both New Zealand and global interest rates will stay low over coming years, especially with the prospect of low employment levels and the need for economies to recover from COVID-19.
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