“Interest Rate Hikes 0.25% in November to 2.85%” – What does this mean? Back to Basics

In Simple Terms;

• The statement is usually within the context of your Home Loan, however also impacts other credit facilities and savings accounts.
• Statement refers to the Cash Rate. The Reserve Bank of Australia (whom control monetary policy) set a cash rate goal (typically once per month). The technical RBA definition for the cash rate is the interest rate on “unsecured overnight loans between banks”, ie. Cash Rate relates to an operation between banks.
• The cash rate impacts your interest rates however does not directly translate to your variable home loan. For example, current, as of 5^th Nov 22;
  • Cash rate = 2.85%,
  • A reasonable new customer owner-occupied home loan variable interest rate might be just under 4.60% p.a. (this serves as example only – your actual interest rate will vary from lender to lender, the loan product & your financial position).
• This demonstrates a buffer between the cash rate and your home loan rate – ie. you indirectly absorb some of the costs from the bank’s operations and profit margins.
• Lenders don’t necessarily have to increase/decrease their rates in line with the cash rate when it changes but they often do, partially or entirely.
• Lenders often portion out the changes, dividing their portfolio into new or existing customers – The majority of lenders proactively offer new customers more competitive interest rates to win the business and only reactively grant discounts for ‘retention risk’ clients whom request better interest rates.
• Cash rate increases reduce borrowing capacity because they lead to higher interest costs, an expenses taken into account in lender borrowing capacity calculations.

In Summary – The cash rate is not your home loan interest rate. The banks add a buffer to cover operational costs. The cash rate can impact you across various mechanisms.

Justin Rappolt, Australian Home Mortgage, 5^th November 2022.