With the recent adjustment to variable interest rates by most lenders, MyRate reviews where money for home loans actually comes from. We know we have discussed this before, but it is probably appropriate – given the current environment – to revisit this.
So you want to buy a home. You need $400k. You need someone to lend you that money. There are lots of lenders willing to do so. But where do they get that money from? They don’t print it up themselves…
Well, the fact is that they in turn borrow that money – at a lower interest rate than what they then charge to lend it to you. They are able to get it for a lower rate, because they borrow so much (just a like a supermarket buying bulk), and because they are very trusted to pay it back and have good security behind them.
So where do they borrow it from. Well, in a weird twist, they borrow some of it from you and me. Yep, when you leave your money in your typical bank account, or deposit it in a high interest account, or place it on a fixed deposit, you are effectively giving the bank your money to do with as they wish. And lending it to other parties is one thing they often do. You might be wondering what would happen if everyone went to draw out all their money at the same time (if you are not wondering about this you should be!). This has happened in various countries before and is called a “run on a bank”. It usually follows extreme political unrest, or massive natural disasters – basically anytime that people lose confidence in “the system” and decide they would sleep better at night having their cash under the mattress.
There is no real way to ensure that banks always have enough money to pay everyone back immediately, on demand, but responsible economies (such as Australia) have ratio of “cash” that must be available at any given time as a percentage of the total amount of money the bank owes all its depositors. This ratio is selected as a reasonable value that should ensure you are never without your cash.
The other place that banks borrow money is from wealthy institutions both locally and overseas. These are organisations with massive amounts of cash on hand that need safe, secure investments with conservative returns. A typical example would be pension/superannuation funds. Banks get money from them and lend it on to you.
The simple reason why rates are now increasing is because these organisations are charging more for their money. And we, as depositors, are demanding higher returns on ours too. As such, lenders incur an increase to their cost of funds and they pass this on as “out of cycle” rate adjustments independent of any RBA moves.
Market conditions will drive these changes and if the global economy experiences continued instability, it is likely that rate changes from lenders will continue.