What will happen to mortgage interest rates?

Average Interest rates on mortgages are at an historical low in NZ. Will this low interest rate environment continue for much longer?

As the chart below shows, Mortgage interest rates have gone on a roller coaster ride since 1990.

RBNZ Mortgage Interest rate

The chart traces the average floating rate and 2-year fixed rate on mortgages since 1990 and was sourced from the Reserve Bank of New Zealand (RBNZ).

If you look at the chart, mortgage interest rates have been as high as 15% in the early part of 1991, and as low as 5% in 2016.

The 1990-1999 period saw a major fluctuation in interest rates varying from as high as 15% to as low as 6%.  Nearly half of the 1990-1999 period, saw average interest rates on mortgages hover above 10%.

Only in 1999, did average interest rates on mortgages drop to 6%, only to steadily rise again between 2000 and 2008. Since mid-2008, average interest rates have trended downwards. Today, some banks now offer fixed rate mortgages at an interest rate of 4.25%.

Can we expect the interest rates to remain this low over the next few years?

To answer this question, we need to understand that interest rates are related to the bank’s cost of borrowing. Retail banks like ANZ and BNZ often borrow money in the wholesale markets and their cost of borrowing is linked to the official cash rate (OCR) set by the Reserve Bank. In Australia, the OCR is currently 1.75% while in NZ, it is 2.25%. In fact, although NZ’s OCR is at an historical all time low, it is still higher than Australia, United States (Fed interest rate) and Europe (LIBOR). As long as the central and reserve banks decide to hold their official cash rate (or equivalent) at a low level, we can expect this low interest rate environment to continue over the next few years.

The US Federal Reserve and European Central Bank have signalled they will only increase interest rate hikes if the economy improves. Currently, the US Fed rate is between 0.25% and 0.5%. From looking at the US Federal Reserve’s chair’s comments, it is unlikely that the Fed Reserve will increase interest rates for the rest of this year. For Australia, their slump in their mining sector has negatively affected their economy and this is little chance the Reserve Bank of Australia will raise their official cash rate.

In the past, the Reserve Bank of New Zealand’s OCR decisions have taken into consideration what other central banks are doing to their interest rates. If major economies are reducing their interest rates, NZ is likely to follow to keep the exchange rate in balance. Currently, it is unlikely we will see major interest rate increases this year in the United States or Europe.

So to answer the question, Can we expect the interest rates to remain this low over the next few years? The answer is mortgage interest rate will likely remain at the current levels from mid 2016 to mid 2017. Bu interest rates were to increase during this period, most households will not see the effect if they have fixed their mortgages for a one or two year period.

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