Peter Swan

Now that the Reserve Bank has cut interest rates, the question is – which one of the big four banks will be first to cut, and by how much – if at all?

However may I suggest this may be the wrong question. Instead the RBA may be looking at giving a boost to industry from the cut in interest rates, with any benefit to homeowners just an additional perk.

The 25 basis-point cut to the official cash rate will lower the Australian dollar and take some pressure off the entire export and import competing sectors of the economy, including areas such as education that remain weak. It may take some time to work, but this will be a noticeable effect.

None of the four major banks have moved their standard variable lending rates in response to the RBA’s quarter percentage cut from 4.5 per cent to 4.25 per cent yesterday. Now there is speculation that they are engaged in a game of chicken, each waiting on the other to move first. But I think Australian banks risk the political wrath of not passing on yesterday’s cuts in full as the banks seek to protect their profitability amid rising funding costs.

So far only two relatively minor lenders have passed on the cuts, and they are lenders that finance much of their mortgage lending from savings, rather than borrowing on the wholesale markets.

All banks have warned that, even though most are fully funded for the short term, the European sovereign debt crisis has pushed up wholesale funding costs. The banks’ profit margins are also under pressure given the flat lining credit demand in Australia.

There is a great deal of international uncertainty caused by the meltdown of the Euro and the slashing of the ratings of Euro countries including Germany and France. At the same time, the non-mining sector of the Australian economy remains weak. Indeed, reading their announcement it is clear that the Reserve Bank could be forced to cut interest rates again if the outlook for Europe and the global economy keeps on getting worse. If that happens, the major banks would almost inevitably be forced to pass on the cuts rather than hold back, or they would risk a populist backlash that would anger the government.

Peter Swan is a Professor of Finance at the Australian School of Business.