The Reserve Bank’s well-telegraphed 50 basis point hike in its Official Cash Rate to 2.5% this week was promoted clearly as another 'resolute' move to take inflationary heat out of the economy.
So why is the central bank still lending retail banks $12.7 billion of subsidised cash that is helping to keep asset prices inflated, keep term deposit rates low and further increase bank profits, which are already running at $20 million per day?
The Reserve Bank set up its Funding for Lending Programme during the first year of the Covid crisis to lend banks billions at the same rate as the Official Cash Rate in order to encourage lending and help boost home-owner wealth so as to support the economy. That worked, pushing up house prices 45%, but by mid-2021 it was clear it had worked too well and was generating too much inflation. So the central bank stopped money printing in mid-2021 and started hiking the OCR in October last year because it wanted to slow inflation.
So why is it still shovelling out discounted loans to banks at a rate that means more than a quarter of all new bank lending since December 2020 has been backed by these subsidised loans – and nearly 40% of all new lending since it started tightening monetary policy?
It seemed like a good idea at the time and may well have encouraged lending and supported a fragile economy in the first half of 2021, but the Reserve Bank’s still-open Funding for Lending Programme (FLP) of cheap loans for banks is not only still going strong, it has doubled in size since the RBNZ began outwardly tightening monetary policy from October last year.
Reserve Bank data shows it has lent unspecified banks $12.6b through the programme since it was launched in December 2020, including $6.6b since it started formally tightening policy in late October of last year. A further $350m was lent just last week.
That means 26% of all new housing and business lending since December 2020 was backed by the central bank through these loans, and 36% has been backed since the Reserve Bank started hiking the OCR in October last year.
The banks have slowed their lending growth since late 2021, in part because the Reserve Bank tightened its low-deposit lending restrictions, but the cheap loans also have the effect of boosting banks’ already healthy profit margins. That’s because they usually have to pay retail savers in Aotearoa-NZ and a few wholesale lenders overseas higher rates for term deposits and wholesale bonds.
Banks made profits of $1.75b in the March quarter of 2022 alone, equivalent to almost $20m a day, and up from $1.36b in the December quarter of 2020 when FLP was started. That was partly due to higher net interest margins since December 2020, as these tables and charts from KPMG’s quarterly banking sector report show.
The big four banks’ profit margins are up around 20 basis points since FLP began, equivalent to least $25m per year on the $12.6b currently being lent at the OCR. Overall profit from net interest margins on lending versus deposits were up by $145m overall in the six months FLP began operating at full tilt.
So what? - Why is a taxpayer-owned body subsidising already-profitable (mostly private and mostly Australian) banks to the tune of tens of millions of dollars and in a way that makes it easier for them to lend cheaply to inflate house values? And all at the same time as ostensibly trying to slow down activity in the economy and reduce inflation?
The Reserve Bank has said it promised the banks when it set up the FLP that it would run for two years from December 2020, but within six months it was pulling back its stimulus through its LSAP (Large Scale Asset Programme) or Quatitative Easing programme of money printing to buy bonds, and within 10 months was actually increasing the OCR.
The Reserve Bank has said it didn’t want to go back on its word of leaving the programme open for two years, but that doesn’t explain why it accepted the requests that kept rolling in, especially in the last year when it should have been tightening policy.
In my view, the Reserve Bank should have shut down the FLP at the same time it stopped buying more Government bonds in mid-2021, when only $3.6b had been lent. A further $9b has been lent since then, backing just over a third of new bank lending and adding tens of millions to bank profits.
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