Money Market Interest Rates in Australia and New Zealand - Case Study Example

DECLARATION This report is my original work and has never been presented for an award of a degree in any other University. The report is about money market interest rates in Australia and New Zealand. Signature ………………………………… Date ………………………………….. Student’s Name Student’s Number The report has been submitted for examination with my approval as the course instructor. Signature …………………………… …………… Date ……………………………… Instructor’s Name TOPIC: MONEY MARKET INTEREST RATES By student’s Name: Code+ Course: Instructor’s Name: University Name: City, State: Date of submission 1.0: Executive Summary The report looks into the present historical money market interest rates in Australia and New Zealand. Likewise the reports examine how reserve banks in these countries use monetary policy tools such as Open Market Operations to regulate the amount of money supply in the economy and the interest rates. The report also discusses coming interest rate trends in this year. Similarly, the report looks at the objectives of the Reserve Bank of Australia and the Reserve Bank of New Zealand, which includes maintenance of currency stability and full employment. Correspondingly, the report looks into how the reserve banks of these two countries use the tools of monetary policy in order to control price levels as well as economic activities in these countries. The report also looks into how these objectives can be achieved through regulating flow of finances form lenders to borrowers. The report documents the way reserve banks in these countries regulate the interest rates by use of monetary policy tools (Valentine. 1996) Table of Contents 1.0: Executive Summary 3 Table of Contents 4 3.0: Historical money market interest rates 5 3.1: New Zealand 5 3.2: Australia 7 5.0: Interest rate 12 6.1: Australia 14 6.2: New Zealand 15 7.0: Conclusion 16 References 17 2.0: Introduction Money market is a section of financial market where financial instruments with short maturities and whose liquidity is high are traded. Participants in the money market use it is an avenue for borrowing as well as lending in the short term. Securities in the money market are comprised of certificates of deposits, treasury bills, repurchase agreements, bankers’ acceptances, commercial papers, repurchase agreements and municipal notes (RBA 1990). Reserve banks can also influence the interest rates money supply. If there is too much money circulating in the economy inflation level may tend to raise which may increase the general prices of goods and services in the economy. To avoid high levels of inflation a monetary policy that would reduce the flow of money between the lenders and the borrowers would be considered. This may be achieved through interest rates regulation where the reserve banks in these countries raises lending rates to commercial banks and consequently it becomes difficult for borrowers to access funds through the commercial banks due to high interest rates. . The flow of finances between the borrowers and the lenders is regulated through limiting credit accessed by commercial banks for lending (Viney, 2009). 3.0: Historical money market interest rates 3.1: New Zealand Since 1985 to 2013 interested rates in New Zealand Interest Rates have averaged at 8.5%, with highest percentage of 67.32% recorded in March 1985 and the lowest in April 2009 which was 2.5%. Interest rates in New Zealand are determined by the Reserve Bank of New Zealand (RBNZ). Official Interest Rates (OCR) in New Zealand are considered as the authorized interest. In March 1999, OCR was established and since then the bank undertakes to review it eight times per year (Mishkin & Eakins, 2006). OCR controls the money-borrowing price in New Zealand and this enables the reserve bank to control the level of inflation and economic activities in the country. Currently, the New Zealand’s GDP is approximated to have augmented by 3% from September 2009 to year 2013. Official cash rate Cash rate   Bank bill yields   Secondary market government bond yields   Inflation indexed bond   Official Cash Rate (OCR)   Overnight interbank cash rate     30 days   60 days   90 days     1 year 1 2 year   5 year   10 year     2025                                             10 Sep 2013 2.50   2.45     2.63   2.63   2.64     -   3.00   4.20   4.70     2.87 11 Sep 2013 2.50   2.40     2.63   2.63   2.64     -   3.05   4.29   4.78     2.86 12 Sep 2013 2.50   2.50     2.63   2.63   2.64     -   3.06   4.30   4.78     2.88 13 Sep 2013 2.50   2.52     2.63   2.64   2.65     -   3.06   4.30   4.78     2.84 16 Sep 2013 2.50   2.48     2.63   2.64   2.65     -   3.01   4.23   4.71     2.84 17 Sep 2013 2.50   2.50     2.63   2.64   2.63     -   3.05   4.28   4.76     2.76 18 Sep 2013 2.50   2.49     2.63   2.64   2.65     -   3.06   4.30   4.78     2.79 19 Sep 2013 2.50   2.52     2.63   2.63   2.63     -   3.01   4.26   4.73     2.80 20 Sep 2013 2.50   2.47     2.63   2.63   2.63     -   3.04   4.29   4.74     2.70 3.2: Australia In Australia, the difference between the average rate of interest and the overall cost of obtaining funds recorded little significant change in the last few years. In February 2008 the cash rate was 7 percent, in February 2009 the rate decreased to 3.25 % and in February 2010, the rate augmented to 3.75%. Similarly, the cash rate trend increased to 4.75% in February 2011 and in February 2012, it showed a decrease, which represented 4.25%. The trend continued to decline until 2013, which showed a fall to 3.25%. It is important to compare the lending rates and the average deposits to determine bank profitability and can help to measure competitiveness of the bank. In the recent past, the nature of degree of competitiveness has been seen in the housing finance market particularly due to entrants in the market. Entrance of new providers of finance to small businesses in the recent past has dawdled despite the presence of larger cash rate margins due increased competition. Interest Rate Decisions 2008–2013 Effective Date Cnghae in cash rate Percentage points New cash rate target Per cent 4 Sep 2013 0.00 2.50 7 Aug 2013 -0.25 2.50 3 Jul 2013 0.00 2.75 5 Jun 2013 0.00 2.75 8 May 2013 -0.25 2.75 3 Apr 2013 0.00 3.00 6 Mar 2013 0.00 3.00 6 Feb 2013 0.00 3.00 5 Dec 2012 -0.25 3.00 7 Nov 2012 0.00 3.25 3 Oct 2012 -0.25 3.25 5 Sep 2012 0.00 3.50 8 Aug 2012 0.00 3.50 4 Jul 2012 0.00 3.50 6 Jun 2012 -0.25 3.50 2 May 2012 -0.50 3.75 4 Apr 2012 0.00 4.25 7 Mar 2012 0.00 4.25 8 Feb 2012 0.00 4.25 7 Dec 2011 -0.25 4.25 2 Nov 2011 -0.25 4.50 5 Oct 2011 0.00 4.75 7 Sep 2011 0.00 4.75 3 Aug 2011 0.00 4.75 6 Jul 2011 0.00 4.75 8 Jun 2011 0.00 4.75 4 May 2011 0.00 4.75 6 Apr 2011 0.00 4.75 2 Mar 2011 0.00 4.75 2 Feb 2011 0.00 4.75 8 Dec 2010 0.00 4.75 3 Nov 2010 +0.25 4.75 6 Oct 2010 0.00 4.50 8 Sep 2010 0.00 4.50 4 Aug 2010 0.00 4.50 7 Jul 2010 0.00 4.50 2 Jun 2010 0.00 4.50 5 May 2010 +0.25 4.50 7 Apr 2010 +0.25 4.25 3 Mar 2010 +0.25 4.00 3 Feb 2010 0.00 3.75 2 Dec 2009 +0.25 3.75 4 Nov 2009 +0.25 3.50 7 Oct 2009 +0.25 3.25 2 Sep 2009 0.00 3.00 5 Aug 2009 0.00 3.00 8 Jul 2009 0.00 3.00 3 Jun 2009 0.00 3.00 6 May 2009 0.00 3.00 8 Apr 2009 -0.25 3.00 4 Mar 2009 0.00 3.25 4 Feb 2009 -1.00 3.25 3 Dec 2008 -1.00 4.25 5 Nov 2008 -0.75 5.25 8 Oct 2008 -1.00 6.00 3 Sep 2008 -0.25 7.00 6 Aug 2008 0.00 7.25 2 Jul 2008 0.00 7.25 4 Jun 2008 0.00 7.25 7 May 2008 0.00 7.25 2 Apr 2008 0.00 7.25 5 Mar 2008 +0.25 7.25 6 Feb 2008 +0.25 7.00 4.0: Open Market Operations (OMO) The RBA and RBNZ in both countries are regulates the interest rates using this monetary policy tool. If there is too much money in circulation the governments in these countries through the reserve bank buys bonds from the members of public at a relatively higher prices than that offered at the security markets to money supply in the economy. Similarly, if the reserve banks anticipate decrease in money supply, they sell the government bonds to the members of the public at relatively lower prices (Elyasiani & Mansur, 1998) than that offered by the security markets in order to increase the money supply in the economy. This implies that the lenders will have more money to put in the banks for the borrowers to access for investment activities. In case of a contractionaly monetary policy where the reserve banks reduce base money volume, the banks are left with less money to lend to the members of the public and they are compelled to adjust their balance sheets. Consequently, the interest rates rises and the rate of deposits in the bank reduces (Brooks & Faff, 1997). Therefore, Open Market Operations have a direct influence on the rate of interest rates. If cash there is a manipulation of cash rates then there is effect on the rest of short-end rates. This implies that households as well as the firms can access the funds much easier for borrowing. This being the case the banks will require more deposits to lend to the members of the public and the reserve banks in these countries may be forced to lower the required reserves. 5.0: Interest rate Rate of interest rt* met mt* 1(a) Real money balances When the money supply is higher than expected, the target reserve maintained at dl leads to a rise in interest rates as well as the money demand. Figure 1(b) interest rate mtd (low) mt* mtd (high) mta mt* mtb Even when there are no disturbances to the demand for money the aggregate demand as well as the aggregate supply and the reserve bank . Interest Rate rt* dlte dlt (2a) Bank loan and dealers Figure 2(a) is the expected supply of loans and dl is the interest rate inverse function. Figure (2b) rta rtb dlt (high) dlt (low) .As the rate of interests rise the rediscounting penalty declines. 6.0: Prediction of the current interest rates 6.1: Australia According to a survey carried out by Kidwell (2007) indicates that the interest rates will continue to rise for the coming months up to 2014. Most of consumers anticipate the rates to hike or remain constant rather than dwindling. Results from the survey indicated that 415 of the consumers predict the rate will become more elevated by August 2014. If the reserve bank adopts a monetary policy meant raise demand through a cut on interest have an adverse effects on investments. This will discourage investors from investing in Australia especially due to political turmoil in the Australian current economy. The current situation in Australia would call for implementation of more fiscal policies as compared to monetary policies. Fiscal policies effected through taxes and increased government spending will more productive in Australian current economic situation. Monetary policies may not be very effective especially when the official rates are much lower than anticipated. Lower Rates of interest raise the price of assets than optimal. This may imply negatively on the Australian economic situation particularly due to rising housing prices in Australia. Current position of global economy in Australia remains unpredictable. The domestic economy continues to weaken with the rates of unemployment predicted to increase and CPI (Consumer Price Index) remaining unpredictable. On the other hand, the depreciation of Australian dollar against the US dollar may accelerate inflation because of augmented prices of imports. However, the effects of depreciation of the Australian dollar and low rates of cash are yet to be experienced. The current rate interest rates will, continue to increase given that prices for housing continues to raise. 6.2: New Zealand In New Zealand, inflation in house prices continue to increase in Canterbury and Auckland. As it has been the policy of the reserve bank of New Zealand, it is the only institution with the mandate of controlling price stability in the country. To reduce the level of inflation brought about by the housing prices. Measures are to be put in place fix next month to restrict high mortgages and this is expected to decrease the market for housing. The rate of exchange is still high as form May 2013. However, a rate, which is relatively lower, will uplift the export sector. Consumer Price Index has gone down in the previous year, thereby showing the strength of the New Zealand dollar as well as enhanced and improved domestic competition. However, the level of inflation is anticipated to rise towards the last quarter of the year to a tune of between 1 and 3 percent. The OCR is predicted to rise during the start of the net year. The manner as well as the timing of these rates of interest are expected to sky rocket will largely be determined by the prices of houses. However, the rate is to remain constant in year 2013. 7.0: Conclusion Prediction on money market interest rates are very useful in determining the policy measures each country should adopt in case of money surplus or deficit in the economy. This is coupled with various monetary policies tools that are meant to address certain issues related to either fall or rise of interest rates and their implication on the economy. The reserve banks in these respective countries need to come up with stringent appropriate about interest rates. Governments in these countries also need to integrate fiscal policies with monetary policies, as sometimes-monetary policies may not be appropriate in certain situation especially when the prices of housing are increasing in both countries. References Brooks, R.D. and Faff, R.W. (1997) ‘Financial Deregulation and Relative Risk of Australian Industry’, Australian Economic Papers, Vol. 36, December, pp. 308–320. Elyasiani, E. and Mansur, I. (1998) ‘Sensitivity of the Bank Stock Returns Distribution to Changes in the Level and Volatility of Interest Rates: A GARCH-M Model’, Journal of Banking and Finance, Vol. 22, pp. 535–563. Viney, C., (2009). McGrath’s Financial Institutions, Instruments & Markets (6th ed.) The McGraw-Hill Companies Kidwell, D. S, Brimble, M., Beal D. & Willis, D. (2007). Financial markets institutions and money. John Wiley & Sons Australia, Ltd. Lewis, M.K., & Wallace, R. H. (1997). The Australian financial system. South Melbourne: Longman. Mishkin F. S., & Eakins S. G. (2006). Financial markets and institutions (6th ed.). Boston: Addison Wesley. Reserve Bank of Australia (RBA), Bulletins and Annual Reports, 1990 onwards. Valentine, T., Ford G., Edwards V., Sundmacher, M., & Copp, R. (2006). Financial markets and institutions in Australia (2nd ed.). Frenchs Forest: Pearson Education Read More