Why Australian Banks Should Now Think About Interest Rate Cuts Independent Of The RBA

Westpac CEO Gail Kelly has created a $100 million foundation to mark the bank’s bicentenary.

As expected, the RBA left interest rates on hold this month. But movements in the cost of funds for the banks – particularly the majors – suggest that the time might soon be right for an out-of-cycle rate cut from Australia’s big banks.

Back in 2011, Westpac CEO Gail Kelly famously told Leigh Sales on The 7.30 Report that the time may come when the majors can deliver an out-of-cycle rate cut to customers as the cost of funds comes down.

LEIGH SALES: You’ve said that lower wholesale funding costs will be in place by about 2013. Will you then cut interest rates independent of the reserve?

GAIL KELLY: I can’t wait for that, Leigh. I feel like we’ve stared into all of the headwinds of what’s been a very difficult environment through the Global Financial Crisis of much-enhanced difficulty of funding costs and all of the stresses and strains that we’ve just spoken about. There’s no question towards the end of 2012, that situation will plateau and our average funding costs will start to plateau because marginal funding costs will be coming down, and then into 2013 and ’14 – we can see it today: the amounts of money that we raised at the height of the crisis in 2009 and ’10 starts to mature. And hopefully we’ll be able to replace that at a much cheaper level. There’s no question that we’ll be passing benefit on to customers when that happens.

LEIGH SALES: In the form of interest rate cuts?

GAIL KELLY: Absolutely.

Picture: RBA May SoMP

And it seems that the very prescient comments from Kelly are now coming to fruition, with Westpac able to issue a monster residential mortgage backed security (RMBS) of $2.5 billion at a margin of 78 basis points over the one-month bank bill swap rate (BBSW).

That’s the big red dot on the bottom chart (see right) and it certainly looks like a post-GFC low for a major bank RMBS issue, based on RBA information.

Now of course this deal is only only $2.5 billion in many hundreds of billions of dollars of funding that Westpac undertakes but the trend, as evidenced by the spread to Australian government bonds on bank corporate issues and on deposits, particularly term deposit specials, being paid by the banks suggests that all the majors are being rewarded with a substantially lower marginal cost of funds. This will also drag down their overall cost of funds.

So the time is now right – or it is nearing – for the majors to do as Gail Kelly suggested and pass on the benefits to customers, consumers and the economy.

It might be just the antidote to the budget the economy needs.

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