Mortgage Rate Spread to RBA Benchmark at 270 Points: Lowe

Australian mortgage rates have widened relative to the central bank’s benchmark borrowing cost because of more expensive funding and greater competition for deposits, Reserve Bank Deputy Governor Philip Lowe said today.

“What we are seeing as a result of both market and regulatory developments is an increase in most interest rates in the economy relative to the cash rate,” Lowe said in the text of a speech in Melbourne. “This increase is due partly to the global loss of trust in financial institutions, which has led to all banks paying more for funds in capital markets.”

Lowe didn’t comment on the nation’s growth outlook or the trajectory for rates in his prepared remarks to the conference of economists. He said the central bank’s overnight cash rate target is about 1.5 percentage points lower than it would have been before the 2008-09 global financial crisis to take account of the higher borrowing costs in the economy.

In the decade preceding 2007, the average outstanding variable mortgage rate was 150 basis points above the cash rate, he said. “Today, this difference is around 270 basis points,” Lowe said.

The Reserve Bank of Australia reduced rates by 125 basis points from November to June, including a 50-point cut in May designed to help drive down mortgage rates, as Europe’s sovereign-debt crisis slows growth in Australia’s biggest trading partner, China. Australia’s economy has been powered by high prices for coal and iron ore in the past decade as Chinese urbanization spurs global demand.

Deposit Competition

Lowe said higher funding costs for banks are also being driven by competition for deposits among lenders, a trend seen in nations including the U.K., Sweden and New Zealand.

“In Australia, while public attention has clearly focused on the widening spread between the mortgage rate and the cash rate, there has been much less attention paid to the fact that reductions in the cash rate have not been passed through fully into deposit rates,” Lowe said, noting in the past depositors were lucky to be paid close to the cash rate on their savings.

“In stark contrast, today there are a number of deposit products that pay about 2 percentage points above the cash rate,” he said.

Lowe said that while Australia has avoided a crisis, fallout from Europe and the U.S. is having “a significant impact” on the domestic financial system through the tightening of regulation and developments in the marketplace.

“Many of these changes are positive and, over time, they should enhance the safety and resilience of our financial system,” he said. “But as these changes take place, all those interested in finance need to do their best to understand the impact on the cost and availability of finance. And we should not lose sight of the importance of system-wide supervision, including understanding the innovations in both the Australian and the global financial systems.”