The government-owned Reserve Bank of Australia is the authority that has the last word on Australia’s Official Cash Rate (OCR), also simply called the “cash rate”. This in turn affects the interest rates on home loans. It is therefore useful for first home buyers and property investors to know how cash rates and interest rates are related, and the RBA’s exact role in the matter.
What Is The Reserve Bank Of Australia
The RBA is the central bank in Australia, responsible for issuing our currency, conducting the national monetary policy, and making sure the payments system is safe and efficient. It sets the interest rates in the overnight money market, which is the short-term lending market used by financial institutions like banks. This interest rate on overnight loans between banks is called the cash rate.
The RBA also monitors the interest rate and makes sure it’s low enough to encourage economic growth and employment, without leading to inflation. There are many factors that go into the decision for the value of the cash rate.
In 2021, for instance, the government announced it wouldn’t raise cash rates because wage growth had slowed down in Australia. The cash rate at the time of writing is a record low of 0.1%.
This cash rate may affect the interest rates that banks can offer to consumers, on home loans among other things. The operative word here is ‘may’ since there is no mandate on banks to set home loan interest rates based on the cash rate.
How Are The Cash Rate And Interest Rate-Related?
When a bank decides on an interest rate for home loans, it has the choice to take the cash rate into account. If the RBA makes any changes in the cash rate, the banks have the choice to decide if they want to pass on any reductions or increases in the cash rate, onto the rates offered to borrowers.
A lender is also within their rights to change the interest rates when the RBA hasn’t made any changes to the cash rate. But in general, if the cash rate increases, banks would increase interest rates. On the contrary, if cash rates were to fall, banks may lower interest rates.
Who Is Affected By Cash Rate Changes?
Cash rate changes may affect those homeowners with variable rate home loans if the lender changes the interest rates. Mortgage brokers will tell you that borrowers with fixed-rate home loans aren’t impacted by any changes that the lender makes to the interest rate.
But note that variable loan interest rates aren’t governed by cash rates alone. The bank can decide whenever it wants to change the interest rate.
How Often Can The Cash Rate Change?
The cash rate is reviewed as many as seven times a year (except in January). At present, the RBA is keeping inflation between 1 and 3 percent on average in the medium term. In the future, the RBA is looking at maintaining a 2 percent inflation and supporting maximum sustainable employment. The cash rate depends on how effectively the economy is able to keep inflation numbers within these targets.
Variable Versus Fixed Home Loans
If you have a fixed home loan, you are not affected by the RBA’s decisions. But if you have a variable loan, you may find yourself facing unexpected cash rate-influenced hikes in rates. At present, banks in Australia are offering lower fixed-rate home loans, arguably to lure customers away from fixed-rate loans.
The advantage of variable home loans for consumers is the flexibility that comes with them. But with flexibility, you are also vulnerable to hikes in interest rates. And that’s where banks make their profits. Home loan brokers can help you find the right variable home loan for you, should you want one.
But it’s always important to identify which type of loan is right for you. Only allow yourself to consider a variable home loan if you feel you can take on potentially higher payments towards the loan. It is also possible to split the loan between the two options.
The Bottomline
Your investment property mortgage broker is there to help you find the right lender for you, offering an attractive interest rate. If you prefer a split loan that won’t rely entirely on changes in the cash rate or the bank’s discretion, you can speak to your mortgage broker.
But remember, the interest rate for fixed-rate home loans may not be what you thought it was. It’s important to remember that the fixed rate you’ll be offered is the fixed rate on the day of settlement and no other date.
Homebuyers looking to make property investments can benefit from following the news around the cash rates and the decisions of the RBA. They may affect your home loan and your ability to pay back the interest in the time you’d envisioned.
