Banks
can raise funds from a variety of sources, including deposits, wholesale debt,
and equity (Beau, Hill, Hussain,
and Nixon, 2014). The cost of bank funding impacts a wide range of
economic variables, with substantial consequences for both monetary and
financial stability (Beau, Hill,
Hussain, and Nixon, 2014). In other words, if loan servicing becomes
more expensive, it could lead to more loan defaults by borrowers, which could
hurt the bank's financial health and even have broader implications for the
overall economy.
In
Australia due to the economic challenges faced by the COVID-19 pandemic, the
Reserve Bank of Australia took various policy measures to support households
and businesses. One of the measures included reducing the cash rate target to
historically low levels to lower the cost of funding for banks through the Term
Funding Facility (TFF) and to ensure the continued supply of credit to households
and businesses (RBA 2022c, Kent 2021). The TFF (Term Funding Facility) offers
affordable funding for a duration of three years to authorised deposit-taking
institutions (ADIs) with the aim of boosting the availability of credit.
Additionally, it encourages ADIs to expand their lending to businesses,
particularly small and medium-sized enterprises (SMEs) (Alston, Black, Jackman, and Schwartz, 2020).
The purpose of this blog
is to provide a comprehensive analysis, supported by visual aids, of how the
Term Funding Facility has played a significant role in decreasing the cost of
funding for banks, enterprises, and individuals.
Graph 1: Bank’s lending rates and funding cost
reduced
From the graph 1 above, it shows that funding
costs and lending rates fell sharply in 2020. This was due to the Reserve Bank
of Australia's introduction of the Term Funding Facility in 2020. The RBA cut
the official cash rate to a record low of 0.10% and implemented a range of
other measures such as the Term Funding Facility, which provided banks with
low-cost funding.
Lender’s Rate reduced
Graph 2.1: Housing rate reduced
Graph 2.2 Business Rates
From the figure above,
it can be observed that before the introduction of TFF in march 2020, housing
lender rate was set as 3.57 and significantly reduced to 2.86 in April 2022 before
taking a rise due to the rise in interest rate in 3th May 2022. Likewise in the
business sector, the lender rate significantly reduced to 4.11, 2.6 and 1.55
for small, medium and large businesses before taking an increase due to the
rise in interest rate in 3th May 2022. In RBA March 2022 Bulletin, the Reserve
Bank of Australia (RBA) stated that banks' outstanding funding costs have
decreased by an estimated 85 basis points, which has led to a decline in the
interest rates paid by borrowers on both housing and business loans. Specifically,
the RBA estimated that interest rates paid on outstanding housing loans have
dropped by approximately 100 basis points, while interest rates on outstanding
business loans have decreased by approximately 115 basis points during the same
time period. This suggests that the reduction in funding costs for banks has
been passed on to borrowers in the form of lower interest rates on their loans.
Graph 3: Major banks’ bonds issuance reduced
From
the Graph 3, it would say that before the introduction of the TFF during the
pandemic, Major banks in Australia relied heavily on bond issuance to fund
their lending activities. With the introduction of the TFF, the graph shows
that the issuance of long-term bonds by Australian banks was subdued in early 2020,
with only a small uptick in the 2021 compared to the levels seen prior to TFF. In
December 2021, outstanding bank bonds were around AUD 143 billion, down from a
peak of around AUD 190 billion in mid-2019.
Conclusion
The
Reserve Bank of Australia's implementation of the Term Funding Facility in
response to the economic challenges posed by the COVID-19 pandemic has
significantly reduced the cost of funding for banks, enterprises, and
individuals. Graph 1 shows a sharp decline in funding costs and lending rates from
2020, which can be attributed to the introduction of the TFF. Graphs 2.1 and
2.2 show a significant reduction in housing and business lending rates before
taking a rise due to the rise in interest rates in May 2022. The reduction in
funding costs for banks has been passed on to borrowers in the form of lower
interest rates on their loans. Graph 3 shows a reduction in the issuance of
long-term bonds by Australian banks, which highlights the success of the TFF in
providing affordable funding to banks. Overall, the TFF has played a crucial
role in ensuring the continued supply of credit to households and businesses,
particularly small and medium-sized enterprises, during a challenging economic
period.
References
APRA (2021a), ‘Committed Liquidity Facility Update’, Letters,
10 September.
APRA (2021b), ‘Finalising
Loss-absorbing Capacity Requirements for Domestic Systematically Important
banks’, Letters, 2 December.
Aziz A, C de Roure, P
Hutchinson and S Nightingale (2022), ‘Australian Money Markets through the
Pandemic’, RBA Bulletin, March.
Alston, M., Black, S., Jackman, B. and Schwartz, C., 2020. The Term
Funding Facility. RBA Bulletin, December, viewed, 22.
Beau, E., Hill, J., Hussain, T. and Nixon, D., 2014. Bank funding costs:
what are they, what determines them and why do they matter? Bank of
England Quarterly Bulletin, p.Q4
Black, S., Jackman, B. and Schwartz, C., 2021. An Assessment of the Term
Funding Facility| Bulletin–September 2021.
Black, S. and Titkov, D., 2019. Developments in Banks' Funding Costs and
Lending Rates| Bulletin–March 2019.
Fitzpatrick, R., Shaw, C. and Suthakar, A., 2022. Developments in Banks'
Funding Costs and Lending Rates| Bulletin–March 2022.
Kent C (2021), ‘The
Term Funding Facility, Other Policy Measures, and Financial Conditions’, Address to KangaNews, Online, 9 June.
RBA (2022a),
‘Banks’
Funding Costs and Lending Rates', Explainer.
RBA (2022b), ‘The
Transmission of Monetary Policy’, Explainer.
RBA (2022c), ‘Supporting the Economy and Financial System in Response
to COVID-19’,
29 January.
Suthakar A and M Garner (2021), ‘Developments
in Banks' Funding Costs and Lending Rates’, RBA Bulletin,
March.
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