Reserve Bank’s OCR surprise delivers a blow for savers and relief for borrowers – for now

The Official Cash Rate stayed on hold instead of rising. That surprised markets because a higher rate had been widely expected. The decision mattered because the OCR influences wholesale funding costs and many retail interest rates.

Three Monetary Policy Committee members wanted an increase. They believed the economy was resilient and that acting immediately could stop inflation from becoming embedded. The other four members, including Governor Anna Breman, voted to keep the rate unchanged.

The decision put downward pressure on shorter-term wholesale rates. That could limit increases in short-term deposit and mortgage rates, at least temporarily. Breman still said the OCR would likely keep rising toward a neutral, non-stimulatory level. She also suggested the eventual rate might need to exceed the earlier projection of about 3.25%.

The OCR is the Reserve Bank’s benchmark interest rate for monetary policy. It signals how expensive money should be in the economy. Banks use wholesale markets and other funding sources, so changes in the OCR can influence the rates they offer savers and charge borrowers.

When the OCR rises, short-term wholesale interest rates often rise too. Banks may then increase deposit rates to attract funding and raise mortgage rates to cover higher costs. When the OCR falls, the reverse pressure can appear, especially for rates closely tied to short-term market pricing.

The link is not automatic or identical for every product. Banks also consider competition, funding needs, international markets, and expectations about future policy. The article notes that longer-term deposit rates were influenced by international concerns, while short-term rates were more heavily influenced by the OCR.

Keeping the OCR unchanged removes some immediate pressure for banks to lift short-term rates. This matters to savers and borrowers because short-term deposit and mortgage pricing is closely connected to wholesale interest rates, which respond quickly to OCR expectations.

Wedge founder Dave McLeish said the decision could prevent shorter-term deposit rates from rising. He also saw shorter-term mortgage rates being held back. JB Drax Honore strategist Sean Keane similarly identified downward pressure on some mortgage and term-deposit rates, although he said widespread cuts would require wholesale rates to keep falling.

The effect may not be uniform. Banks could lower selected mortgage specials to win market share, rather than change all rates. They were also unlikely to make major changes before the November 7 election, because its result could affect financial markets. The Reserve Bank still expected further OCR increases.

Average rates increased across the deposit and mortgage products listed, but the size of the increases varied greatly. Longer-term deposits generally rose more than shorter-term deposits. This shows that retail rates were responding to more than the latest OCR decision.

In September, a new three-year deposit paid 4.49%, up 80 basis points from November. One-year deposits averaged 4.02%, up 54 basis points, while six-month deposits averaged 3.59%, only 3 basis points higher. For mortgages, the one-year average was 5.55%, up 45 basis points, and the two-year average was 5.86%, up 58 basis points.

The biggest increase in the listed deposit rates was the three-year rate. Among the listed mortgage rates, the two-year rate rose more. The article links stronger longer-term movements to international factors, while short-term rates remained more exposed to the OCR decision.

Short-term bank rates are closely linked to the OCR because the OCR shapes immediate expectations about the cost of money. A change in the policy rate can quickly move short-term wholesale rates, which influence products such as six-month deposits and one-year mortgages.

Longer-term rates look further ahead. They reflect expectations about inflation, economic growth, and future interest rates across international markets. The article specifically mentions concerns that high oil prices could create widespread inflation. It also says government indebtedness was pushing bond yields higher, affecting longer-term pricing.

That helps explain the different movements since November. The three-year deposit rate rose 80 basis points, compared with just 3 basis points for six-month deposits. Longer-term rates had risen more from the cycle’s trough, even though the Reserve Bank’s hold put particular downward pressure on short-term wholesale rates.

The disagreement centred on how serious inflation risks were and when the Reserve Bank should respond. Supporters of a rate increase feared that waiting could allow inflation to become embedded, forcing sharper increases later. They judged the economy resilient enough to handle another rise.

Reserve Bank chief economist Paul Conway, assistant governor Karen Silk, and external member Hayley Gourley voted for a hike. They believed raising the OCR immediately would guard against inflation bedding in. Governor Anna Breman and the other three members kept it unchanged because higher fuel prices had produced less widespread inflation than expected.

The hold camp also pointed to cautious households. People were keeping their wallets shut, limiting businesses’ ability to pass on higher costs and workers’ ability to demand higher wages. Breman and Prasanna Gai also saw a material risk that global conditions could change abruptly. All members agreed on the inflation outlook, but weighed risks differently.

Interest rates influence inflation by changing how households and businesses use money. Higher rates make borrowing less attractive and saving more rewarding. Lower rates reduce the cost of borrowing and can make people less inclined to leave money in deposits.

In the article, households were saving more than usual and keeping their wallets shut. That reduced demand and made it harder for businesses to pass higher costs to customers. It also limited employees’ ability to bid for higher wages. A higher OCR can reinforce those pressures by discouraging spending and borrowing, while supporting saving.

Lower rates can work in the opposite direction by encouraging borrowing and spending. Stronger demand may give businesses more ability to raise prices and employees more scope to seek wage increases. The committee differed over timing: some wanted a rise to prevent inflation bedding in, while others judged current household restraint and global risks important.