With the official cash rate plummeting in recent months and talk of further cuts not out of the question, interest rates are once again in the spotlight. However, many mortgage holders have been questioning as to why banks have not been passing on the full cuts to customers. But the key question is should they be?

Interestingly, banks do not obtain their funding from the Reserve Bank, as is the common misconception. If this was the case, then one could be justified in expecting that RBA rate adjustments would be reflected in the bank’s own price setting. But rather a bank acquires funds from three distinct sources – deposits held in savings, offshore money markets and finally domestic investors and funds.

All three of these sources expect that the bank pays them interest in return for their cash contributions, as in essence a bank is an intermediary between those who have money and with those who want it. Banks can only operate profitably when they pay out less interest to their funding sources than they receive interest from borrowers with the difference termed their “net interest margin”.

Since the 2000s the net interest margins of Australian banks have tightened as a result of the opening of the banking system to non-bank lenders and international institutions. This increase in competition coupled with lack of consumer confidence has led to big interest rate discounts being offered to generate more business, which in turn has squeezed bank margins tighter.

As a large percentage of funds come from deposits held and banks and these are not making a lot of money for the banks due to current low rates, they are hesitant to pass on the full cuts. In a statement CBA stated that it was “not feasible” to pass on the full rate reduction as it needed to “balance the interests of stakeholders”.

AMP have also commented that it’s unreasonable to expect banks to pass on the full rate cut due to “increasing pressure on profit margins as an increasing proportion of deposit rates hit zero”.

None the less, there still may be mortgage holders who are feeling gypped and dissatisfied with how much or how little has been passed on. The team at Blackburne Mortgage Broking are always on hand to review your position and see if there are more competitive options available to you.  Contact us any time to see what you may be able to save.