How to play the interest rate game

As the Trustee Services Partner at Gilligan Rowe & Associates, I’m often asked what is going to happen in the economy, the property market and with interest rates. We answer questions like this all the time as helping people make and protect their money is our business.

A couple of years back this one million dollar question popped its head up. The question is back on the table again. Do you or don’t you fix your interest rates on your loans right now?

The last thing people want is fix their loans at a rate of say 7.25% pa and then rates move downwards the following month. Likewise, no one is happy when they choose not to lock in their loans and find rates move upwards and against them.

A couple of months back the answer to this one million dollar question would have been fairly clear. Now however, it really is a game of snakes and lizards and everyone is wondering which way they should roll the dice. Below are some tips that might just help you decide what to do.

The Reserve Bank and the OCR

In simplistic terms, the Reserve Bank’s main job is to establish and implement monetary policy. It does this by setting the Official Cash Rate (‘OCR’) with an aim of controlling economic activity and inflation. How does this affect us everyday people? Well, again in very loose terms, banks borrow money which they then lend on to us.

Banks borrow money from several sources such as from overseas lenders, term deposit holders and of course, the Reserve Bank.

When a bank borrows funds from the Reserve Bank, it usually does so at a rate around the OCR. When a bank then lends funds on to us, it does so by putting a bit of a margin on those funds.

So if a bank borrows funds from the Reserve Bank at say 5% and if it adds a mark up of say 2%, we can expect that bank to lend those funds to us at 7% or thereabouts.

Accordingly, when the OCR moves, it affects the wholesale rates banks borrow funds at, which, in turn, affects the interest rates the banks are prepared to lend money to us at.