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What’s the impact of the Reserve Bank’s capital proposal?

The Reserve Bank of New Zealand (RBNZ) – and interest rate predictions – have been hot topics since the end of May. Public submissions on RBNZ’s capital review proposal closed May 17, sparking a lot of debate about how the proposed changes will influence interest rates.

Predictions are just that – predictions – but with the RBNZ not due to release its final decision until November, you may be questioning how the changes might affect you, and if there’s anything you should be doing with your mortgage now.

Explaining the changes

In a nutshell, the Reserve Bank changes will directly affect the amount of capital banks are required to hold. Under the proposal, banks would be required to hold $20 billion more in capital – double the minimum amount of cash they currently keep.

The Reserve Bank says capital is important for keeping banks safe, so when – not if – there is a repeat of the 2008 global financial crisis, they’ll be ready to withstand it. It’s a long-term policy, but all the big banks are saying it will drive interest rates up.

Link between the OCR and mortgage rates

On top of the RBNZ capital proposal, the official cash rate (OCR) also dropped from 1.75% to 1.0%. What is the OCR? The RBNZ is responsible for maintaining a certain level of price stability, and reviews of the OCR are a normal part of this policy. By monitoring the NZ economy, the RBNZ uses its huge store of data to make predictions on inflation, among other things. If the Reserve Bank thinks inflation will go above or below its ideal range, it will adjust the OCR to keep inflation stable.

The other part of the relationship to understand is between the RBNZ, your bank and the OCR. The Reserve Bank acts as the central bank for most NZ-registered banks. A bank will end the day in credit or debit depending on what its customers spend in a single day. Think of the RBNZ as an overdraft account – it will pay or charge interest to banks depending on how they balance up each day. Short-term interest rates are, therefore – most of the time – influenced by movement in the OCR. That’s because your bank doesn’t want to lend money to you for less interest than they would get if they were to lend money to the Reserve Bank. At the end of the day, banks are businesses.

But the OCR only makes up a portion of the interest-rate equation, as banks can borrow money from lots of different sources. If the OCR goes down, so might your home loan rates – but not always particularly when you are on fixed rates.

What does this all mean for homeowners?

The constant flow of dollars between the RBNZ, you, your bank, and any other entities your bank may borrow from, is enough to confuse anyone. So, here are the important bits you need to concentrate on.

The OCR has dropped down to an unprecedented level, so most major banks have cut their home loan and deposit interest rates.

A drop in deposit interest rates isn’t such a good thing for those wanting to make money on their savings accounts, but it is good news for first-home buyers, other borrowers and those who are keen to pay off their home loan as fast as they can.

There is a lot of uncertainty – interest rates will probably go down, although it might not be by much. That means if you’re about to re-fix your mortgage rate, or you’ve been thinking about restructuring your mortgage so you can pay it off quicker, now is a great time to lock in but perhaps for short term such as 1 year only so that you can take advantage of any further reduction in interest rates sooner. Everyone’s specific circumstances, needs, and goals are different, so it is important that you avoid general advice if you expect a good outcome.

Seek help from a professional

The best thing to do in this climate is to contact a professional mortgage adviser, who can help you make the most of low-interest rates and guide you on what may be foreseeable in your best interests.

Your adviser may help you restructure your mortgage while keeping your repayments the same. With the drop in interest rates, this is a fantastic way to get that debt paid off faster without affecting your lifestyle.

If you want to know how to save real money on low-interest rates, get in touch with Global Finance to review your mortgage goals.

Read more about interest rates and RBNZ reserving proposals at Interest CO NZ