The Reserve Bank of Australia announced on March 19 that it was reducing the cash rate to a record low of 0.25% in response to the economic impact of the COVID-19 virus.
What is the cash rate?
The RBA defines the cash rate as the ‘interest rate on unsecured overnight loans between banks’. When one bank is low on cash it may need to borrow some from another bank. The cash is paid back the next day, plus interest. The cash rate defines that interest.
The cash rate – a domino effect
The cash rate has a direct impact on the banks, but it also has a knock-on effect for major areas of the economy. The RBA can increase the cash rate as a way of slowing down the economy and reducing inflation. Conversely, the RBA can decrease the cash rate as a way of encouraging lending, spending and speeding up the economy in times of recession.
Typically, when the cash rate is reduced the banks will do two things:
- Reduce the interest rate on their variable rate mortgages
- Decrease the interest rate on their savings accounts
The impact the cash rate has on home loans
As I mentioned earlier, the cash rate can impact the rate that banks set on home loans. Decreases in the cash rate will typically reduce the interest rate on home loans – a saving that is passed onto the consumer.
The following graph from Mozo demonstrates the impact that the cash rate could have on your mortgage repayments:
|Cut||New Rate||New Repayment||Monthly Savings||Yearly Savings|
What does this mean for me and what should I do next?
This means that the interest rate on your mortgage could drop. However, this is only an option if you are on a variable rate mortgage. If you are on a variable rate mortgage you should take the following steps either on your own or with your mortgage broker:
- Assess the interest rate on your mortgage – decide whether it is competitive compared to the current market rate. This is particularly pertinent if you have a standard mortgage without the need for specialised features, such as a redraw facility.
- Check your lender’s website – are they planning on cutting mortgage rates? If not, feel free to contact your mortgage provider anyway and ask them about a potential cut.
- On your own, or with your mortgage broker start assessing the rates and options available for you on the market.
- If there is a much better deal, prepare the appropriate paperwork (or have your broker prepare it for you) and organise the switch to your new provider.
Marc has been a professional lender for 28 years. After beginning his career in 1990 with a UK Building Society, he moved to Australia where he held several different retail banking roles. In 1999 it became clear to him that a mortgage broker would eventually become an obvious choice for someone looking for a home loan so he took the plunge and became an independent broker. He hasn’t looked back since!