This is in your interest

Andrew Pegler – 26 March 2010

THE GFC has changed how banks raise money. While this isn’t great for borrowers it’s boon time for savers.

Ever wondered how banks get their money? It’s a mix of your deposits with what they can borrow from other financial institutions on the capital markets. (Capital markets are where governments and companies go to raise money.) This funding mix was pretty stable leading up to the GFC but, as Fairfax’s Ross Gittens wrote the other day, the financial crisis has had a significant impact on the cost of our banks’ funding sources, which has forced them to rely more on our humble deposits. As an article in this quarter’s Reserve Bank Bulletin points out, the crisis dried up short-term wholesale funding – like 90-day bank bills, which was a crucial part of bank funding. Right now banks need the safety of longer-term sources of funds like ordinary bank deposits, especially term deposits, which can go out to five years and are highly likely to be rolled over upon maturity. To quote the Reserve Bank Bulletin, “banks in Australia have increased their use of deposits and long-term debt, as these funding sources are perceived to be relatively stable, and reduced their use of short-term debt and securitisation.” So with banks now fighting for your stable deposits the interest they pay you is going up and up. In fact according to Gittens by an average of 1.6 percentage points than before GFC. Of course the downside is that this extra cost has been lumped on borrowers in the form of higher interest. Interesting stuff.

And in other news… ever heard the term Dutch disease? The theory is that an increase in revenues from natural resources deindustrialise a nation’s economy by raising the exchange rate, which kills manufacturing. It comes from what happened to the Dutch when a huge natural gas reserve discovered in the 1950s, drove up its currency and left its manufacturing sector to wither. According to ex ANZ Chief Economist Saul Eslake that could happen here if we’re not prudent i.e. the mining boom won’t last forever either so we’d better start building up other sectors. Otherwise, the real danger is that there won’t be anything else we can really do but dig stuff up and load it onto tankers.