What is a cash rate and how does it impact buying and owning a home?

Understanding the cash rate is crucial in understanding the rate you will be charged on your mortgage and how it will impact your interest rate on your savings account.

Home Ownership
Erin Howell

You may have heard the word ‘cash rate’ a lot lately. That is because, after covid-19 lockdowns and two years of low-interest record rates, there has now been a series of rate rises occurring over the past few months, with more to come.

Understanding the cash rate is crucial in understanding the rate you will be charged on your mortgage and how it will impact your interest rate on your savings account.

In this article, we will dive into the cash rate, who decides on rate changes, and how it will impact your home purchase.

What is a cash rate?

The Reserve Bank of Australia (RBA) defines cash as ‘The interest rate on unsecured overnight loans between banks. It is the (near) risk-free benchmark rate (RFR) for the Australian dollar and is also known by the acronym AONIA in financial markets.’

The RBA is Australia’s central bank. The RBA is responsible for maintaining and uplifting the Australian economy. Their decision to move the cash rate is made with economic data front of mind, alongside the best interest of Australians.

On the first Tuesday of the month (except January), the Reserve Bank of Australia board members meet to determine if there should be an increase or decrease in the official cash rate. Every month, the decision directly impacts the cash rates, which typically affects interest rates.

After two years of record-low interest rates, the RBA has now started raising the cash rate monthly. This means banks are beginning to raise interest rates on home loans, credit products and savings accounts, which is an important term to understand.

What impacts the cash rate?

The RBA’s decision to change the cash rate and how many basis points they choose every month is determined by the following economic data:

  • Level of inflation nationally
  • Cost of living and impacts on the economy
  • Movements in the property market
  • Unemployment data
  • How the Australian dollar is performing globally
  • Consumer and business confidence

Do banks only charge interest rates based on movements in the cash rate, and why?

The official cash rate is one of the factors that will impact rising or falling interest rates.

The cash rate is the interest rate charged between banks and lenders on loans. Therefore it heavily impacts how many financial products cost.

Lenders charge interest rates on their loans and credit products for the following reasons:

  • Accounting for their borrowing costs (e.g. the cash rate directly impacts how expensive it is for your bank to lend money)
  • Make a profit for their shareholders and the business.
  • Cover the costs of operating a financial institution

In saying this, if the cash rate increases, the cost of borrowing money, operating costs and profit margins all change for the bank. Hence why they need to pass on the costs to customers.

It is common for lenders to follow the RBA, so when the cash rate increases or decreases, the bank follows.

A higher interest rate period isn’t ideal for borrowers, although it benefits those saving money.

What is the current cash rate? (November 2022).

In November 2022, the RBA met and determined that Australia's official cash rate is 2.85%. Australia has experienced a 2.75% increase since April 2022, which is the fastest month-on-month cash rate growth since the late 1990s.

What can your home loan look like when rates change?

As the cash rate rises, which is predicted for more months to come, you will see that your variable loan repayments, credit products and interest on your savings account will change.

Specifically relating to your mortgage, your will notice an increase due to the rise in interest rates. It is an excellent time to check how rates can impact your financial situation and create a plan or budget to prepare for this.

As an example of how a higher interest rate could affect your monthly repayment, let’s take a look at this example:

If you currently have a $600,000 mortgage and the RBA decides to raise the rate by 0.25%, your bank will decide to pass on the 0.25% increase to you as the borrower. In this circumstance, the repayment would be roughly $948 extra yearly.

How do cash rates impact homeowners and home buyers?

The main reason cash rates feature prominently in the media is their impact on consumers. This includes consumers’ ability to repay and borrow money for new loans.

The RBA cash rate directly impacts Aussies due to this being passed on by banks and lenders.

This will impact Australians in the following ways:

  • Their ability to refinance current loans to other lenders can be more complex.
  • An increase in current mortgage repayments.
  • Rate hikes impact house prices, typically resulting in a drop in the market.
  • As interest rates rise, loans become more expensive. The amount a borrower can afford decreases, meaning the loan size they can qualify for also decreases. This means borrower may not be able to afford the homes they were aiming for. 

Will my fixed-rate loan be affected?

We dive into fixed-rate vs variable-rate mortgages in our blog. But in short, your fixed rate won’t be impacted by the cash rate changes while you are still on your fixed term. In saying this, when your period ends, your rate will change to the standard variable rate, which can result in thousands of dollars of extra money you will need to put towards your monthly repayments.

You can check the impacts of rate changes through your bank’s rate calculator or your home loan specialist.

As you can see, the cash rate significantly impacts the housing market, economic growth, mortgage payments and property prices. Knowing how this can affect you and your home-buying journey is essential.

Another option rent-to-own with OwnHome. 

One option you may want to consider is rent-to-own. Services such as OwnHome are pioneering a new path to homeownership designed to help Aussies overcome the challenge of housing access and affordability.

With a rent-to-own agreement, the customer pays rent on a property for a set amount of time, during which time, they also pay towards a security deposit in the home. This gives them the option, but not the obligation, to buy the home outright. The tenancy agreement is identical to all other contracts and similarly protects the customer. 

If you're looking to navigate the buying process for the first time, check out our ultimate guide to bidding and negotiation. Or, if you're looking to discover some additional options for how to get into your own home, check out some of our articles on rent-to-own vs a traditional home loan, rent-to-own vs paying lenders mortgage insurance and rent-to-own vs a guarantor loan.

Disclaimer: This article is intended to be general and is not personal financial product advice. It does not consider your objectives, financial situation, or needs. In particular, you should seek independent financial advice and read the relevant product disclosure statement (PDS) or other offer documents before making an investment decision about a financial product (including a decision about whether to acquire or continue to hold).

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