Funding for Lending - how it pushes down your mortgage and term deposit rates

The Reserve Bank is considering a new funding for lending programme to encourage lower interest rates on loans for New Zealanders.

The scheme is part of a number of measures designed to protect the New Zealand economy from the effects of the Covid-19 pandemic.

At the six-weekly review yesterday the Reserve Bank left its official cash rate (OCR) unchanged at a record low 0.25 percent.

Its Monetary Policy Committee also noted the Funding for Lending Programme (FLP) would be ready before the end of this calendar year.

"Funding for lending is basically cheap loans for banks," Westpac NZ chief economist Dominick Stephens told Morning Report.

To bring in the money they then lend to customers, banks pay about 1 percent over the OCR rate to people with term deposits or on the wholesale market, he said.

"The Reserve Bank would lend to banks more cheaply than that - say at the OCR.

"If banks are bringing money in more cheaply they can bring mortgage rates down."

It was difficult to know the exact impact on mortgage rates but Stephens would expect they would decline.

"And importantly, there would also be a drop in term deposit rates - because if banks are getting this funding in from the Reserve Bank they don't need to compete so hard for term deposits."

Stephens said the Reserve Bank is needing to take such vigorous monetary actions to avoid the risk of low inflation or "the disastrous scenario" of deflation due to the effect of the pandemic.

"I still expect that next year, once their committment to keep the OCR at 0.25 [percent] expires, they will also go for a negative Official Cash Rate."

Stephens said though falling interest rates had historically caused higher house prices, "the thing is - what's the alternative?"

"If [the Reserve Bank] failed to reduce interest rates because they were worried about the housing market the outcome could be even worse for the most vulnerable in society."