All this talk of interest rate rises, but what does it really mean?
Another month and another Reserve Bank of Australia (RBA) Board meeting has resulted in the announcement of another interest rate rise in Australia.
This time The Reserve Bank of Australia has raised interest rates by 0.50%, which brings Australia’s benchmark cash rate to 1.85% (as at 2nd August 2022).
In a statement provided by the Reserve Bank of Australia, it announced that this increase in interest rates is a further step in an attempt to bring inflation back to the 2–3 per cent target range and to create a more sustainable balance of demand and supply in the Australian Economy.
The Reserve Bank of Australia also suggested that interest rates may continue to rise but not on a pre-set path, as the size and timing of future interest rate increases will be guided by Australian and global data and the Board’s assessment of the outlook for inflation and labour market conditions.
How might interest rate rises impact you?
The RBA Cash rate is a tool used to influence what happens in the economy as this rate affects how much banks and other financial institutions pay to borrow and lend money. Which in turn impacts the interest rates that we as consumers are charged on the money we borrow or the interest we receive on our cash savings in the bank.
In summary, when interest rates rise – we save more and spend less.
When the Reserve Bank cash rate increases, it means that the interest rates you can earn on things like savings accounts increase (hooray), but the flip side also means the cost of borrowing increases too as the interest rate on your loans and credit cards increase (thumbs down emoji). When this happens, it tends to encourage people to borrow less and spend less as there is more incentive to save and invest money.
But on the other hand, when interest rates fall – we save less and spend more.
On the other hand, when the Reserve Bank decreases the cash rate, the returns on your savings and cash investments also decline. But this can also mean that the cost to borrow money is lower as the interest rates on debt like car loans, personal loans, and credit cards reduce.
What often happens when returns are low on our cash is that we’re more inclined to spend and borrow than keep that money in the bank. The Reserve Bank will use the strategy of cutting interest rates to stimulate spending and economic growth.
Rising Interest Rates is both Good & Bad News
As the RBA mentioned in their latest statement, they expect to see future interest rate rises until they are comfortable with the pace of inflation in our economy. This may have both a positive and negative effect on your finances – here’s why:
The Bad News: higher interest rates will make the cost of managing your debt more expensive.
Starting with the bad news, the amount you pay for variable-rate credit cards, personal loans, and mortgages will increase. And it is likely to become even more expensive to take out new loans with fixed interest rates such as mortgages, home equity line of credit etc.
The Good News: you could see the interest rate on your savings increase
Many banks and financial institutions offer interest rates for savings accounts that are closely tied to the target Reserve Bank interest rate, which means that there’s a chance you could see the interest rate you earn on your savings and deposits go up – particularly if you bank with an organisation that offers a special online variable rate or high-yield savings account.
Now is a good time to review your savings and borrowings
With this and future interest rate rises on the cards, now could be a good time to review your debt and factor in how future rate rises might impact your budget.
Consider how a 1%, 2% or even 3% increase in interest rates might increase your repayments to see how you can budget for them.
Planning for these situations before they happen can support you to be more prepared, make necessary changes to your spending and budget, and better support you to meet these rate rises if they occur in the future.
If you have surplus cash flow and an emergency account already in place, you may wish to consider making additional repayments on your debt now to reduce your level of borrowing. Reducing debt will usually result in a stronger financial position and frees up more of your future cash flow for living and investing! We strongly suggest you seek financial advice to establish whether this strategy is appropriate for your situation.
Finally, if you have cash in savings, you may wish to review the interest rate you earn on your money to ensure it is competitive and that you’re benefiting from any increase in interest rates.
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