Opinion & Commentary
Attacks on banks are misdirected
In August 2006, the Reserve Bank of Australia raised interest rates as part of its pre-financial crisis tightening cycle. One of the reasons it gave for raising rates on that occasion was that ``compression of lending margins over recent years has contributed to a lowering of borrowing costs relative to the cash rate''.
In other words, the RBA was explicitly clawing back the easing in credit conditions that had occurred as a result of increased competition from non-bank lenders in the mortgage market.
The debate about increases in mortgage interest rates over and above the RBA's official cash rate has for the most part ignored this basic fact. The Reserve Bank takes account of retail lending margins and interest rates in setting the official interest rate. After the credit crisis began in August 2007, the RBA raised its official cash rate by less than would have otherwise been necessary if market-led increases in retail lending rates had not already been doing some of the tightening work for the RBA.
The big cuts in official interest rates during the financial crisis reflected the Reserve Bank's expectation that financial institutions would not be in a position to fully pass on reductions in official interest rates, given adverse conditions in global credit markets.
In December last year, deputy governor Ric Battellino noted that market-determined interest rates had increased by around one percentage point relative to the official cash rate over the previous two years, reducing the need for increases in official interest rates.
In its quarterly statements, the RBA carefully evaluates the impact of both official and market-led changes in interest rates for the overall level of credit conditions in the economy. To the extent that the RBA can effectively target credit conditions, movements in retail interest rates that are independent of the official cash rate are irrelevant to how much borrowers ultimately pay.
In other countries, there is often only a weak relationship between official and market interest rates. During the financial crisis, there was very little pass-through of reductions in official interest rates in the US and Britain to retail borrowers. Australia is fortunate to have a relatively close relationship between official and retail interest rates, because it makes monetary policy much more potent in influencing aggregate demand. However, that closeness has given the false impression that financial institutions should only move their rates in lock-step with the Reserve Bank.
Australia's mortgage interest rates are relatively high by international standards, but this is not necessarily evidence of a lack of competition. Nominal interest rates are high because we have institutionalised a relatively high inflation rate through a target high by the standards of overseas central banks.
Australia's real interest rates are high because Australia has strong growth prospects. Low interest rates in the US, Britain and Japan reflect the dismal state of their economies and high unemployment rates.
The public vilification of banks by politicians conveniently side-steps politicians' role in driving up the global price of capital. The IMF estimates that governments of the world's advanced economies will borrow $10.2 trillion in 2011. Private borrowers have increasingly found themselves in competition with greedy governments.
Treasurer Wayne Swan has argued in international forums such as the G20 for a tightening of bank capital regulation. In a speech last year, Reserve Bank Governor Glenn Stevens noted that ``on the assumption that most of these regulatory changes go ahead, one effect will presumably be to make the process of financial intermediation more costly''.
The bipartisan four pillars policy that prevents mergers between the big four banks forces them to operate with a higher cost structure, which offsets the supposed competitive benefit that is assumed to flow from the four pillars policy.
Both the government and opposition have supported subsidies to the mortgage securitisation industry through the Australian Office of Financial Management's purchases of residential mortgage-backed securities (RMBS). This has been great for the bottom line of the mortgage securitisers, but there is no evidence that it has led to a reduction in retail interest rates for consumers. Channelling a subsidy through the non-bank mortgage lenders is an inefficient and non-transparent way of helping home borrowers
Dr Stephen Kirchner is a Research Fellow at the Centre for Independent Studies and a senior lecturer in Economics at the University of Technology Sydney
