Interest rates. What does the future hold?
The expectation is that the Fed will end or reduce itsQT strategy (explained below) by the middle of 2023. At the same time, demand
for borrowing on the international markets is reducing fast too.
For this reason the markets expect interest rates topeak by March next year and begin to fall towards the end of 2023.
How fast they fall will depend on the state of theeconomy. If all this tightening and raising of rates leads to a deeper
recession than expected, then rates could fall very quickly. If however
inflation is still high (due to supply problems such as China and the war in
Ukraine, rather than consumer demand) then rates could be kept high despite the
recession - as happened in the early 1980s.
What can we do about it?
In short, you probably already know the answer. Try topay down debt where possible and live within your means.
Quantitative Easing was a huge experiment withunforeseen consequences. Quantitative Tightening is sure to be the same.
The job of the Reserve Bank Governor has rarely beenso difficult, with so many conflicting risks and demands.
This means that trends are unlikely to last. It mayfeel now that rates will just keep on rising, but they won’t. On the other
hand, that doesn’t mean that things will necessarily be easier next year
either.
So don’t get despondent. Keep your head. Make savingswhere you can – both in paying down the mortgage and investing in your
Kiwisaver.
Background
Anyone with a mortgage or term deposit will be awarethat interest rates have been rising for months now.
What may be less clear, however, is why mortgage ratesare so much higher that the national base rate.
The Reserve Bank rate is 3.5%. The currentfloating/variable rate for mortgages can be more than double this. Whyis that?
Some would argue that it is simply profiteering by thebanks. It is true that banks do make more money when base rates rise and they
have been reporting huge profits this year.
However banks’ self-interest is only a small part ofthe reason.
The rate is also affected by the cost of borrowing onthe international market.
Don’t banks just lend out deposits?
In short, no. The old model of taking in savers’ cashand lending it out to borrowers is only part of the story now. Banks
increasingly find money for lending on the international Money Market. Here
commercial banks, central banks and Governments lend and borrow huge sums of
money over periods of hours, days, weeks and months.
Mortgages and stock market investing are particularlypopular in countries like the US, UK and NZ and so on). In other developed
countries people are more likely to rent their house and save their money in
the bank.
So the demand for mortgage capital in New Zealandmight be met by borrowing the savings of a German depositor.
For the past decade, Quantitative Easing (QE, akamoney printing) has been a dominant feature in the financial world. Low
interest rates (sometimes negative) and Central Banks pumping huge amounts of
money into the system, made borrowing cheap for everyone.
So what has changed?
Quite simply, the return of inflation. QE was mainlyan attempt to avoid deflation and keep the financial system functioning. Now
that inflation has become a problem, there is no need to keep pumpingmoney into the system. Indeed policymakers believe it is important to try and
reduce the supply now.
America is the first country to try this in asignificant way. This practice is known as Quantitative Tightening (QT).Throughout this year the Federal Reserve has been effectively reducing the
amount of dollars in the global system. Initially at the rate of $48 Billion
per month and now at close to double that.
The overall effects of QT are likely to be far rangingwith several unintended consequences. Today the main effect is to make the cost
of borrowing on the international markets more expensive (reduced supply, price
goes up).
Disclaimer
As usual, none of this should be construed asfinancial advice. If you are looking for guidance on your personal situation,
please don’t hesitate to get in touch
The expectation is that the Fed will end or reduce its QT strategy (explained below) by the middle of 2023. At the same time, demand for borrowing on the international markets is reducing fast too.
For this reason the markets expect interest rates to peak by March next year and begin to fall towards the end of 2023.
How fast they fall will depend on the state of the economy. If all this tightening and raising of rates leads to a deeper recession than expected, then rates could fall very quickly. If however inflation is still high (due to supply problems such as China and the war in Ukraine, rather than consumer demand) then rates could be kept high despite the recession - as happened in the early 1980s.
What can we do about it?
In short, you probably already know the answer. Try to pay down debt where possible and live within your means.
Quantitative Easing was a huge experiment with unforeseen consequences. Quantitative Tightening is sure to be the same.
The job of the Reserve Bank Governor has rarely been so difficult, with so many conflicting risks and demands.
This means that trends are unlikely to last. It may feel now that rates will just keep on rising, but they won’t. On the other hand, that doesn’t mean that things will necessarily be easier next year either.
So don’t get despondent. Keep your head. Make savings where you can – both in paying down the mortgage and investing in your Kiwisaver.
Background
Anyone with a mortgage or term deposit will be aware that interest rates have been rising for months now. What may be less clear, however, is why mortgage rates are so much higher that the national base rate.
The Reserve Bank rate is 3.5%. The current floating/variable rate for mortgages can be more than double this. Why is that?
Some would argue that it is simply profiteering by the banks. It is true that banks do make more money when base rates rise and they have been reporting huge profits this year.
However banks’ self-interest is only a small part of the reason. The rate is also affected by the cost of borrowing on the international market.
Don’t banks just lend out deposits?
In short, no. The old model of taking in savers’ cash and lending it out to borrowers is only part of the story now. Banks increasingly find money for lending on the international Money Market. Here commercial banks, central banks and Governments lend and borrow huge sums of money over periods of hours, days, weeks and months.
Mortgages and stock market investing are particularly popular in countries like the US, UK and NZ and so on). In other developed countries people are more likely to rent their house and save their money in the bank.
So the demand for mortgage capital in New Zealand might be met by borrowing the savings of a German depositor.
For the past decade, Quantitative Easing (QE, aka money printing) has been a dominant feature in the financial world. Low interest rates (sometimes negative) and Central Banks pumping huge amounts of money into the system, made borrowing cheap for everyone.
So what has changed?
Quite simply, the return of inflation. QE was mainly an attempt to avoid deflation and keep the financial system functioning. Now that inflation has become a problem, there is no need to keep pumping money into the system. Indeed policymakers believe it is important to try and reduce the supply now.
America is the first country to try this in a significant way. This practice is known as Quantitative Tightening (QT). Throughout this year the Federal Reserve has been effectively reducing the amount of dollars in the global system. Initially at the rate of $48 Billion per month and now at close to double that.
The overall effects of QT are likely to be far ranging with several unintended consequences. Today the main effect is to make the cost of borrowing on the international markets more expensive (reduced supply, price goes up).