Interest rate drop brings mixed news for advisers

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The RBA has made its final cash rate decision of the year. How will it impact you and your clients?

The Reserve Bank or Australia’s monetary policy bigwigs have decided to drop the official cash rate to 3%. If the banks stay true to form, clients with term deposits shouldn’t be too concerned, but those with high levels of mortgage debt may be disappointed.

“There’s always speculation regarding individual banks’ pricing decisions on loans and deposits at this time,” said Australian Bankers’ Association (ABA) CEO Steven Münchenberg.

He noted that a recent RBA Statement on Monetary Policy observed that “bank funding costs – relative to the cash rate – have risen by about 50 basis points over the past year”, and that “the rise in bank funding costs relative to the cash rate over the past year largely reflects the increased cost of deposits.”

Commenting on the funding costs situation, Münchenberg said that the Reserve Bank cash rate has reduced 150 basis points since November 2011, “but with banks, credit unions and building societies facing real funding cost pressures, not all of that has been passed on”.

He noted that, while RBA calculations state that the major banks have cut standard variable home loan rates by an average of 115 basis points, at the same time, banks have only passed on about half the cash rate cuts to savers with term deposits

“Banks are facing higher funding costs mainly due to the competitive rates being paid on deposits,” he said.

“Prior to the GFC, term deposits were priced on average 200 basis points below the cash rate. Now, they are 20 basis points above the cash rate.”

“While interest rates on deposits remain attractive and competitive for savers, when combined with the cost of wholesale funding, deposits continue to put pressure on the overall cost of funds for banks.”

Meanwhile, advisers may well find that the cost of obtaining liability insurance, such as professional indemnity insurance, will rise on the back of today’s rate cut.

“When interest rates fall, there is a multiplying effect on the upfront premium increase we need to charge a customer to offer the same level of cover,” said CGU chief executive officer Peter Harmer.

Click here for more on the PI implications.