OPINION: A 1kg block of cheese has become the hallmark of these inflationary times, but would we be as motivated to shell out $5 more for a glass of Tasty if we had an extra $100 a week in our pockets to cover it?
Or if we had the ability to receive an extra $300 per week, or the ability to pay off our mortgages 10 years faster, without incurring an extra penny or repayments?
Instead of being distracted by high jinks in the dairy aisle, it’s time we started paying a little more attention to the role our banks and government might play in making this happen.
The Reserve Bank Te Pūtea Matua (RBNZ) describes the Official Exchange Rate (OCR) it sets as the wholesale price for borrowing or lending money in New Zealand.
We can infer that someone who wants to borrow money from a retail bank at a floating rate will be paying something that is largely OCR related.
Helpfully, the RBNZ releases data that tracks both OCR and an average of the floating rates charged by banks to their mortgage customers.
As you can see below, there is indeed a clear correlation.
FINANCE AND EXPENDITURE COMMITTEE
Reserve Bank Governor Adrian Orr discusses the risk of recession in May.
What the charts also show is that for most of the first decade of this century, the average floating rate was about 2% above the OCR.
However, over the past 15 years, this margin has steadily increased.
Now it sits about 4% above OCR.
So far, so much the worse for the economy. But things start to get very interesting when you consider the real impact of this on a typical Kiwi customer.
Consider a hypothetical young couple in their mid-30s who, through a combination of their own savings, emptying their KiwiSaver accounts, and the help of mom and dad’s bank, manage to cobble together a $100,000 deposit on a $1.1 million first home. .
With their bank’s variable rate 4% above the current OCR of 2%, our couple will need to make monthly payments of $6,000 for most of the next 30 years to pay off the loan and, over of this period, he will pay the bank approximately. $1.1 million in interest payments alone.
This assumes they have a variable rate throughout.
However, if the bank had maintained its margin at the historically low rate of 2% above the OCR, not only could our couple expect to pay off their mortgage in just 20 years, but in doing so they would pay around 450 $000 interest.
This would translate to a savings of over $600,000, or they could pocket an additional $300 per week if they chose to keep the term at 30 years.
It’s quite a remarkable economy.
If you look at it the other way around, quite an amazing extra profit for their bank to do precisely nothing different.
If that’s not enough to grab your attention, let’s add a little more perspective by checking out what it means for our couple’s KiwiSaver.
Let’s say that the two of us together bring in $130,000 a year.
After watching their KiwiSaver funds drop to zero after buying their home, then paying 3% of each of their salaries and receiving the 3% employer contribution, when they paid off the mortgage and are eligible for retirement, our GoalsGetter tool suggests they will each have a combined balance of just over $700,000.
Our couple will have spent nearly 30 years saving hard in KiwiSaver to support themselves in retirement, and all they will have managed to do is save enough to cover the extra interest the bank has charged them because she chose to double her margin on her floating mortgage rate.
And at the risk of playing too much on the plight of our couple, it’s not just the banks that get their money for nothing.
While our couple will have contributed over $2 million in income tax over that 30-year period, the government will also have taken an additional $160,000 from their KiwiSaver balances in tax over the same period.
Much focus has been placed on the fees charged by KiwiSaver providers on various sides and emphasis on why these are expected to decrease over time.
As a managing director of a fund manager and provider of KiwiSaver, I am a strong advocate for transparency so consumers can understand and make informed judgments about whether they are receiving value-for-money services. .
Taking a deeper look at what we do, I’d like to see that same level of rigor applied to the broader financial services industry.
Perhaps the regulators of these areas of financial services, the Financial Markets Authority Te Mana Tātai Hokohoko and the RBNZ, can agree to emphasize “value for money” because the reduction in fees on KiwiSaver, while allowing floating rate spreads to swell, seems like forcing gnats only to swallow camels.
George Carter is managing director of fund manager and provider of KiwiSaver Nikko AM NZ and investment platform GoalsGetter.