reserve bank

The Reserve Bank has this afternoon cut interest rates to the lowest possible level and announced a suite of measures to inject much-needed capital into the financial system to keep business afloat through the coronavirus crisis.

The RBA’s cash rate has now been lowered to 0.25%, effectively zero, following a cut to 0.5% a fortnight ago. Australia now joins other major economies like the US, UK, Japan, New Zealand, Switzerland, Scandinavia and Europe in having interest rates at the “zero lower bound”.

The bank will also provide a three-year funding facility to banks worth at least $90 billion, conditional on them lending it to business, “especially to small and medium-sized businesses”.

Banks will be able to access initial funding of up to 3% of their current credit levels at a fixed rate of 0.25%. This will translate into business loans far below current interest rates of around 5% for secured loans and much higher for unsecured loans.

Simultaneously, the government has announced it will separately provide $15 billion in support to smaller lending institutions to continue lending to small business and individuals, ensuring that smaller lenders are not driven out of the financial market, repeating a key measure the Rudd-Swan government took during the financial crisis.

The RBA will also purchase as many government bonds as it takes to achieve a yield target of 0.25% (it is currently around 0.5%), pushing interest rates for non-government borrowers down and pushing more cash into the wider economy through lower-cost borrowing.

The overall impact of the measures will be to pump a huge amount of cash into financial markets in order to drive interest rates both for households and for business as low as possible, and ensure lending institutions continue to be ready to lend to businesses struggling with sharply reduced cashflow.

The total of $105 billion in extra funding is relatively small compared to the commitments made by larger central banks such as the European Central Bank and the US Federal Reserve, but the RBA has left open the possibility of its funding facility increasing well beyond the $90 billion mark.

The RBA will also start paying banks 10 basis points on cash left in its account for settlement purposes (normally it pays nothing), to ensure the inter-bank settlement process doesn’t seize up with banks trying to hoard as much cash on their balance sheets as possible.

In a separate statement, the Australian Prudential Regulation Authority also said it would relax the current higher capital requirements that banks are working under since 2017 (10.5% in high quality capital), which has seen them build up $235 billion in high-quality capital buffers.

Banks have now been told they can start using some of the $235 billion to take advantage of the RBA funding facility and maintain lending in the economy.