Programme Director for the Bachelor of Business in Finance and Economics.
Mortgage holders can expect further falls in interest rates as the European Central Bank (ECB ) meets in Frankfurt today to deliberate on monetary policy.
Interest rates are already on the floor. The Bank has kept its main refinancing interest rate at zero percent since March 2016 amid low inflation and lacklustre economic growth. This has been good news for tracker mortgage holders, which account for about four in ten of all mortgage holders, as the refinancing rate is tied to tracker rates.
The bank has also put indirect downward pressure on fixed mortgage interest rates. For example, KBC is currently offering a three year fixed rate of 2.65%. Variable rates joined the party this summer with Ulster Bank one of the first to reduce its variable rate for those with a 10% deposit from 4.30% to 3.90% in July. And if you bank with them, that rate falls to 3.6%. AIB currently offers variable rates of just 3.15%.
Of course, low ECB interest rates are bad for savers. Most deposit interest rates are now hovering around the zero percent mark. At most, KBC will pay 0.6% if you’re willing to lock your money away for a year and move your current account to them.
Deposit rates are linked to the ECB’s deposit rate, the interest rate the ECB pay banks. This rate has been in negative territory since June 2014 and hit minus 0.4% in March 2016. Why? In order to encourage banks not to keep cash on deposit with the ECB, but instead to lend it out to boost inflation (and some inflation is necessary ) and the economy.
However, negative deposit rates are a problem for the banking sector. In effect, banks face a bill for putting their cash on deposit with the ECB, which can have the opposite effect to that which was intended. Banks may decide to hoard cash in vaults and reduce lending. The ECB needs to be mindful not to over penalise banks and push them towards this counterproductive behaviour.
Today the talk turns to further interest rate cuts. Why? Two reasons.
First, headline inflation: The ECB is mandated to deliver one objective and one objective only: price stability. This the bank defines as inflation at or below 2% over the medium term. Inflation is running well below this target since November 2018, hitting an estimated 1% in August.
Second, inflationary expectations. Inflationary expectations feed into actual inflation and so it is no surprise that they influence ECB thinking on future interest rates. Inflation expectations are depressed. At the ECB’s last meeting in July, they noted that all measures of inflation expectations had declined and that this was a cause for concern from a monetary policy perspective.
So are there more interest rate cuts to come?
The speculation is that the deposit rate, the rate the ECB pays to banks, will be cut to minus 0.5%. This move is likely to be accompanied by some sort of cushion to shield banks from the costly effects of negative interest rates.
There is also speculation that the refinancing rate will be cut to minus 0.1%. Any cut in the refinancing rate will save tracker mortgage holders money immediately. For example, a 0.1% cut would save a tracker mortgage holder owing €300,000 about €170 a year. It would also probably lead to further downward pressure on variable and fixed rates. Even if this rate is not cut today, the bank is likely to signal cuts down the road.
There is also talk that the ECB will restart quantitative easing (QE ). This involves the ECB buying government and corporate bonds to boost inflation towards their 2% target. The last programme saw total assets purchased of over €2.5 trillion euro from 2014 to 2018. When the programme ended in December 2018, the ECB also said that they would increase interest rates in 2019 and gradually reverse the easy monetary policy that had prevailed.
But things have changed since then. The China-US trade war has slowed global economic growth and some large European economies, like Germany, are underperforming. The ECB, like it’s American counterpart, the Federal Reserve, has had to change its tune in response. At the ECB’s last meeting in July, the bank decided to explore a new quantitative easing programme. Today heralds the beginning of this new phase of easy monetary policy. Good news for mortgage holders, bad news for savers.
Marie Finnegan a lecturer in economics in GMIT. She is Programme Director for the Bachelor of Business in Finance and Economics.