What is the RBA Cash Rate Anyway?
We heard today that the RBA has left the cash rate on hold for the 30th consecutive meeting in a row. Whilst most of us are curious to know the outcome of their meeting every first Tuesday of the month, most Australians are probably not aware of what the cash rate really is. Put simply it’s the interest rate on overnight loans in the money market.
Banks constantly shift money among themselves and as the volume of these transactions is unpredictable, coupled with the fact that financial institutions base their operation on risk taking, its not uncommon for them to run out of cash to honour these transactions. In such instances they borrow funds either from each other or from the Reserve Bank.
When the cash rate is low as it presently is, banks tend to take more risks by issuing more household and business loans thus potentially stimulating economic activity. Higher cash rates dampen the risk banks are prepared to take and what they are prepared to lend.
The RBA Rates and Mortgage Rates
RBA rates do not directly affect bank lending interest rates but can create a ripple effect with lenders. If the RBA reduces the cash rate this will make a bank more “willing” to lend more funds but in order to generate new business, they must pass on this rate reduction to the consumer.
In a free market the bank is free to respond to the RBA decision how they see fit. Whilst they do not have to reduce their rates when the RBA cuts the cash rate, from a goodwill perspective and a marketing strategy often, they will move in step. There is no legal obligation for the banks to move their rates in line with the RBA though they often do so more as a public relations exercise than a fiscal strategy.
For now, we sit tight. Analysts are predicting that we will see two rate cuts from the month of June as the RBA sits out this month to see the Federal election play out. If that occurs is anybody’s guess and what that will mean for your mortgage rate is hard to know. But what we do know in the here and now is that interest rates are still sitting historically low and it’s a great time to review your mortgage products and make sure you are not paying too much.