Warning for borrowers: Careful what you wish for on interest rates

Thursday, 25 July 2019

Here's how to get on top of your mortgage.

Mortgage interest rates may yet fall a bit further but New Zealanders are unlikely to ever pay the 1 per cent or 2 per cent rates seen in other countries.

British home loan borrowers are still able to fix two-year rates of between 1.4 per cent and 1.9 per cent. Even 10-year rates are available at 2.5 per cent.

But even as economists predict the New Zealand official cash rate could drop below 1 per cent this year, they say that those who are borrowing money from the bank should not expect to see anything like rates of that sort here.

At the time of writing, a typical two-year home loan special from the main banks was 3.79 per cent.

* Outlook murky for interest rates as biggest bank slashes predictions

* Interest rates to rise 'significantly', house prices fall, economist says**

Mortgage rates could fall a bit further - bit how much?

Could we get to 3 per cent?

Verdict: Possible but don't count on it.

Westpac expects another two cuts to the official cash rate, and for it to hit 1 per cent in November, or even 0.75 per cent if the labour market weakens.

The rate is currently 1.5 per cent.

If official cash rate cuts were passed on to borrowers in their entirety, you could expect, then, to see home loan interest rates between 3 per cent and 3.25 per cent.

But as more and more cuts have happened, less of the reduction has been passed through to the rate borrowers pay. When the Reserve Bank last cut the official cash rate by 25 basis points, only about half of that drop flowed through to retail interest rates.

'Where the official cash rate goes des not mean retail borrowing rates are going to follow,' said Cameron Bagrie, of Bagrie Economics.

'Interest rates might nudge lower but I'm not convinced borrowing rates can fall much further.'

Markets have already priced in an expectation of more cuts.

Dominick Stephens, chief economist at Westpac, said the closer to zero the official cash rate was, the less of an impact it had on mortgage rates.

The other determinant of what borrowers pay is the rate on government bonds.

Gareth Kiernan, chief forecaster at Infometrics, said, if mortgage rates were to hit 3 per cent, those bond rates would have to drop to 0.5 per cent.

'Given we have got bond rates that do look to be at record lows, that's a fairly big ask although we might have said that when they were at 2.5 per cent.'

First home buyers have had to mortgage to the hilt to get into a first home.

2 per cent?

Verdict: Very unlikely

ASB chief economist Nick Tuffley said, to get mortgage rates down to 2 per cent, the official cash rate would have to be cut close to zero with a widespread expectation that it would remain very low for some time.

'This scenario would require depositors to be happy to leave deposits in banks despite earning at an interest rate that is close to zero.'

Kiernan said that was a big driver of borrowing interest rates - the banks had to have enough money coming in to be able to offer a term deposit rate that made it worth people putting their money in the bank.

Stephens said growth in bank deposits had already markedly slowed.

Bagrie said a drop to 2 per cent would require 'one hell of an economic downturn' and a scenario in which a lot of people lost their jobs.

While people might welcome the idea of lower rates, he said, they would not enjoy the reality of the situation that made it happen.

1 per cent?

Verdict: Not without wider calamity.

Tuffley said 1 per cent mortgage rates would require extreme circumstances, such as a negative official cash rate and potentially quantitative easing, where a central bank pumps money into the economy to support it.

Stephens said this had been the case for most countries where that level of borrowing rate had been offered.

'Deposit rates would likely be zero or slightly negative in order for banks to still have enough of a gap between funding costs and lending rates that is sufficient to cover capital costs and other operating costs,' Tuffley said.

Kiernan said it would be nearly impossible. New Zealand's interest rates tended to be higher than those overseas, he said.

In the past that had been due to the fact that New Zealand was a smaller, and seen as riskier, economy.