Why are rates so low?

After the emergence of Covid last year, the Reserve Bank dropped the Official Cash Rate (OCR) down to 0.25%, which meant saving and borrowing rates plummeted.

Whether you’re saving or borrowing, you’ll have experienced the impact of the record low OCR we currently have in New Zealand.

If you’re focused on saving or investing, you’ll have seen the interest returns on your money continue to drop over the past year. This is particularly challenging for people who have been living off the returns they receive on their savings. It has also created frustration for those who are saving for a house deposit outside of their KiwiSaver.

On the other hand, if you have a mortgage or have gotten on to the property ladder recently, the reduction of the fixed and floating rates on home loans will be a welcome relief as your mortgage repayments will be lower, and for now you’ll be able to pay off your home loan faster thanks to the lower rate of interest.

Thinking about your own financial decisions in the past year, have you made changes with how you’ve managed your money in this environment? Perhaps the low returns on your savings meant you decided to spend rather than prioritise saving, or the low home loan rates encouraged you to buy a house earlier than planned?

If so, this is exactly what the Reserve Bank wants you to do. The Reserve Bank use the OCR to influence the New Zealand economy. If the economy is doing well, they can increase the OCR to calm economic growth and encourage the prices for goods and services to drop. But when the economy isn’t going well – such as what we saw when Covid hit - the Reserve Bank cuts the OCR because the theory is that by reducing the rates lower and lower, it motivates people to do a bit more with their money as they aren’t receiving high interest returns on their savings. It’s a way to hopefully stimulate economic activity and to encourage businesses and people to borrow and spend big.

Has it worked? Well, the economy is doing better than initially predicted. Even though it’s not directly related to the OCR, the limit on international travel due to Covid means more domestic tourism – we’re spending money here rather than overseas. The low rates combined with the increased time at home due to lockdowns has seen people borrowing and spending on home renovations, and it has also encouraged people to borrow for bigger purchases they may have been putting off, such as a car, campervan, or just about anything for the fun for it.

The low rates have helped the economy to recover somewhat better than expected. But they will be around for quite a while yet, so it’s helpful to consider this when making any financial decisions for the year ahead.