Interest rates get talked about constantly, but the link between what the Reserve Bank announces and what you actually pay is less direct than most people assume. Here is how it really works.
For the current cash rate and when the next decision lands, see our rate updates page. This article explains the mechanics behind it.
What is the cash rate?
The cash rate is the interest rate banks charge each other on overnight loans. The Reserve Bank of Australia sets a target for it, and the Board meets several times a year to decide whether to move it.
It is not the rate on your mortgage. It is the rate at the very bottom of the system, and everything else is priced off it to some degree.
Why does the RBA move it?
Mainly to manage inflation. The Reserve Bank targets inflation of 2 to 3% on average over time.
When inflation runs too high, raising the cash rate makes borrowing more expensive, which cools spending and takes pressure off prices. When the economy is weak, cutting the cash rate makes borrowing cheaper and encourages spending and investment.
The Board also weighs employment, wages growth and what is happening internationally. Rate decisions are rarely about one number.
Does a cash rate change go straight onto my mortgage?
No, and this is the part that surprises people.
Lenders set their own rates. They take their cue from the Reserve Bank, but they operate independently. That means three things in practice:
- A lender can pass on all of a change, part of it, or none of it
- A lender can move rates when the Reserve Bank has done nothing at all
- Each lender picks its own effective date, usually a few weeks after the announcement
So if the cash rate moves by 25 basis points, which is 0.25 percentage points, your lender might move by 25 points, or 18, or 30, or not at all.
Why would a lender not pass on a change in full?
Because the cash rate is only one input into what it costs a lender to fund your loan.
Lenders raise money from deposits, from wholesale markets, and from securitisation. The Bank Bill Swap Rate, a market reference rate that moves with supply and demand rather than sitting fixed to the cash rate, matters a great deal. Competition for deposits matters too, as does the lender’s own funding mix.
A lender whose funding costs have risen for other reasons may hold rates steady after a cut, or raise them after a hold. More on how mortgages are funded.
What does it mean for fixed rates?
If you are on a fixed rate, a cash rate change does not affect you until your fixed period ends.
Fixed rates on offer to new borrowers work differently again. They are priced off where the market expects rates to go, not where they are today. That is why fixed rates often move before the Reserve Bank does, and why a fixed rate can sit well above or below the current variable rate.
A fixed rate that looks unusually low is the market pricing in expected cuts. One that looks high is the market pricing in expected rises. More on choosing between fixed and variable.
Should I wait for rates to change before I act?
Trying to time the rate cycle is difficult even for people who do it professionally. Forecasts get revised constantly, and the market has usually priced in an expected move well before it happens.
What you can control is the loan itself. Whether the rate you are on is still competitive, whether the features suit you, and whether your repayments have room in them if rates move against you. Those questions are worth more attention than a forecast.
If you want to know how your current rate compares to what is available, have a look at current rates or get in touch.
Common questions
Do all lenders change their rates at the same time?
No. Each lender decides separately whether to move, by how much, and from what date. Announcements usually come within a few weeks of a Reserve Bank decision, but the timing and the amount vary between lenders.
Why did my rate go up when the RBA did not move?
Lenders can change rates independently. If their funding costs rise, through wholesale markets or competition for deposits, they can pass that on regardless of what the cash rate is doing.
Does the cash rate affect my fixed rate loan?
Not during the fixed period. Your rate is locked until the term ends. It will affect what rates are available to you when you come off the fixed period and have to choose again.