The Reserve Bank recently announced an increase in the official cash rate (OCR) to a seven-year high of 3%.
Sound like financial mumbo jumbo? I get that. But it is an important change and one that you want to be aware of. I started BetterSaver to make financial advice accessible to Kiwis, so I’ll break it down in plain terms so you know what to expect.
What is the OCR?
The OCR is the interest rate for transactions between banks. It is a tool used by the Reserve Bank to influence economic activity and inflation.
Here’s how it works. When you use your EFTPOS card, money moves from your bank to the bank of whoever you are paying. This happens thousands of times a day, obviously. At the end of each day, the transactions are settled so each bank knows what it owes to other banks. (If you ever worked retail, now you know what that end-of-shift “settlement batch” is all about.)
Every day, each bank is either in credit or debit. The Reserve Bank covers the difference by either paying interest (if the bank is in credit) at a rate 0.25% lower than the OCR, or charging interest (if the bank is in debit) at a rate 0.25% higher than the OCR. There is no limit to what the Reserve Bank lends or borrows at OCR-related rates, so banks don’t run out of money and you and everyone else can keep on spending and saving.
Pretty generic banking stuff so far. Now, what does it matter to everyday Kiwis if the OCR changes?
What does an OCR increase mean?
An increase means the banks are paying more interest to borrow from the Reserve Bank. Like any other business, they pass that extra cost on to their customers. This is how it affects you.
An increase in OCR means that:
Interest rates for mortgages and other loans will increase
The biggest impact is on short-term interest rates, like floating mortgage rates. Home-owners with a floating mortgage can expect their payment amount to increase now.
To get an idea of what this looks like, a $600,000 floating mortgage might see an increase of $60 due every week. Some will feel that extra pinch more than others, and remember, this is on top of the OCR increases over the past year - so your mortgage payment might look quite a lot different compared to a year or so ago.
If you are trying to buy your first home - you’ll need more money
While recent data shows house prices are coming down, rising interest rates mean the average income needed to buy a home is now $142,000, which is $7,000 more than in November of last year.
It might feel like first-home buyers keep taking a hit, but there are still many options that can help you get into your first home. Check out our articles on first-home buying to ensure you don’t miss out on any opportunity you could be eligible for.
You will earn more interest on savings
The interest rate on savings accounts and term deposits will also increase, so you essentially get paid more for saving.
This is where it pays to have savings and investment accounts up and running to take advantage of the increase. If you don’t have savings, it is never too late to start. As the saying goes, the best time to start was yesterday. The next best time is now.
It's worth mentioning that the OCR is not the only factor influencing interest rates. Foreign rates play a role in NZ’s interest rates regardless of what the OCR does, because NZ is a net borrower in overseas markets.
So, as far as day-to-day life goes, the OCR increase has good and bad effects, depending on how you look at it. Understanding the reasoning behind it might give you peace of mind and feel a little less like everything is flying out of control.
Why did it increase?
Because of inflation. The OCR increase creates an increase in interest rates, which means people borrow less and are incentivised to save. When people spend less, demand decreases. A decrease in demand reduces pressure for prices to rise, therefore reducing inflation.
The Reserve Bank reviews interest rates seven times a year and may adjust the rate to influence economic activity. Quite simply, when interest rates rise, people spend less; when they drop, people spend more. This gives the Reserve Bank a measure of control over inflation rates.
The target range for the inflation rate is 1%-3% per annum, and right now, it is at 7.3% (not the Reserve Bank’s fault - the world has gone through some crazy shit). The OCR is forecast to increase to 3.75% by the end of the year and possibly get to just over 4% in 2023 in an effort to bring the inflation rate down.
While this all might sound pretty grim, the plus side is that this should cause the inflation rate to begin to drop - a welcome shift for many Kiwis who want to put the days of $20/kg cheese behind them.
So what can you do? If you have a mortgage, talk to a mortgage adviser to prepare for future rate changes. They can help you work through your options and decide whether to lock in interest rates. The earlier you get advice, the better prepared you will be. The same goes if you are a first-home buyer. If you live without loans and focus on saving - keep it up. But no matter who you are, make sure you sort your KiwiSaver fund. Really. It takes five minutes so just do it now.
What does an OCR increase mean for KiwiSaver funds?
KiwiSaver is a long-term investment. As long as you are in a fund that aligns with your goals, risk tolerance, and timeline, you are set to ride out what happens in the market. Keeping your contributions consistent through this time will ensure you continue to build your savings. Knowing you are in a fund that suits your needs and can help your financial future means one less thing to worry about.
I hope this clears things up for you. If you have any concerns, the BetterSaver team is here to help.