Episode 55: Interest rates, and their impact on, well, everything

May 16, 2022

If you haven’t had a conversation about interest rates or increase cost of….well anything – then you having been living under the proverbial rock! With the Reserve Bank of Australia increasing the cash rate for the first time in over 10 years it is a popular topic right now. Sarah and Trudi break down some of the factors that have caused the increase in interest rates in laymen’s terms everyone can understand. We’re not economists so they chat on the bits that are most relevant to you. They also talk about why it is relevant to you and take you through some useful tips on some of the things you should be doing right now to minimise the impact the rate rise has on your business/personal cash flow. Interest rates impact us all, so this is an episode for anyone who needs a breakdown in a fun chat that is easy to understand.

Podcast Transcript Available Here

Duration: 26:38

Trudi Cowan: Welcome to today's episode of the Financial FOFU Podcast. Today we are going to talk about something that's been on my cards for a little while. Interest rate, it is rising. Trudi Cowan: Welcome Sarah, what are your thoughts?  Sarah Eifermann: Everyone's favorite topic right now, panic stations, panic stations. That look, interest rates. We've been talking about this for ages like three years. Trudi Cowan: It's been very much, a when it's going to happen. Is it going to happen? Will they do it this month, Will it be next month?    Sarah Eifermann: It's not, is this going to happen. It's when. It's been that way for a long time. I mean let's be realistic here. REITs have been at historical lows for 10 years and in the last three years, they dropped further to try and mitigate the issues of the economic impact of COVID but an interest rate of 2.25 on a home loan, like some like we've had not clients of mine because I don't do the resi lending anymore, my colleagues do it for me but like 1.89% fixed. Three months ago, there was a commercial loan with Suncorp small business so they do Sarah Eifermann: Their commercial departments are a little bit different than a traditional commercial department of a bank. They have what's called Small Business, which goes up to $3 million, their fixed rate on a two-year rate on a factory was 1.89%.   Trudi Cowan: Wow. The cheapest chips are next to nothing really    Sarah Eifermann: Like they've never been this low. I know in America or Ireland, they had post-GFC. They had rates that you actually can't go below zero but they were like practically if you go below zero they give you money. That's how that works. So they've been at all-time lows and we are only now starting to see what's going to come about as a result of this. So I suppose why are rates rising, is the real question.  Trudi Cowan: Inflation.  Sarah Eifermann: Yes, what's inflation, Trudi? Trudi Cowan: You are the one who brought [inaudible 2:12]   Sarah Eifermann: I will tell you what inflation is.   Trudi Cowan: I'll give you the latest definition and then you can go into that. Sarah Eifermann: Sure, lets do that. Trudi Cowan: Inflation is the decrease in your purchasing power of money, which is a result of prices going up.   Sarah Eifermann: You don't get as much for your cash.   Trudi Cowan: And that's also been something that people have been talking about a lot lately, is the increase of prices. Sarah Eifermann: Cost of everything Trudi Cowan: And everything trade is a fine enemy in materials. Everyone is finding it in their supermarket, shop, petrol plot prices. It's reflected in a lot of [inaudible 2:52]   Sarah Eifermann: I think I saw a really good picture a couple of weeks back of 12 months ago, how much timber you got for $100 versus how much timber you got now for that dollars. It was like a third of the amount of timber so Trudi says I'm a history nerd, and nobody wants to hear this example. The most famous example is very well known of inflation of this kind was in the post World War I  German the Weimer Republic. As a result of the Treaty of Versailles and the economic sanctions that were placed on Germany for causing World War I.  Sarah Eifermann: The inflation went through the roof there and the average German person needed to wheelbarrow their cash to the bakery to get a loaf of bread and it was something ridiculous like 4000 Deutsche Mark, 400,000 Deutsche Mark, to buy one loaf of bread and one of the other impacts of inflation is when it occurs because your bank or your reserve bank, so the Australian Reserve Bank. In America, it's the Federal Treasury, but when they print money, you can't just print money and then expect inflation to not go up either. And this is historically well known so it surprises me that they just keep doing it at times.   Trudi Cowan: I just can't help thinking to imagine being the one that had to count all that money at the bankery.   Sarah Eifermann: It's really your wheelbarrow, weigh the wheelbarrow around that counter and make sure your wheelbarrow by default rate doesn't weigh more than a kilo. This is the thing like these economic cycles go round and round and round. Milton Keynes would have traditionally told you that an economic cycle like this would go every seven to 10 years like that is just the nature of our economy it is also very similar to the nature of our property market. They are quite linked together. I am a firm believer especially in Australia that the telltale sign of where we are in our economy is the construction industry because when they start feeling the pinch on availability of work, the availability of materials on profit margins, and the like that is what's then coming for the rest of us, because they've experienced it first, and especially in Victoria, more so than the other states that the economy completely runs on the construction industry when the construction industry slows down everything else slows down.   Trudi Cowan: Yes, because of this inflation, we got rates going up so we had the RBA, actually, Reserve Bank of Australia actually announced this month last week that they're going to increase the interest rates, and the reason that they try to do that is to try and mitigate some of this inflation. They're trying to reduce [crosstalk 5:45]    Sarah Eifermann: What they are increasing is the cash rate? So let's get a few things clear. The cash rate is the rate that the cash build swap exchange is set by the RBA. I think that's right. It doesn't mean that it's a benchmark rate for banks to lend at however it is expected that banks stay within the benchmark because banks have a profit margin that sits on top of the cash rate. When you're exchanging money depending on where that money is coming from, it will impact the margin that the lender has within the rate. So cash rate today, let me just Google what the cash rate today is. It's .01 %, that's how low the cash rate is at the moment so when they raise rates last week, they put an additional 25 basis points. This is a joke within our industry that you refer to percentage points as they rise as basis points so if it's gone up 100 basis points, it's gone up 1%. If you want to be really smize, it's kind of 100 basis once. It's only 25 basis points Trudi, so what are you worried about. It's really low. What that means is that the banks will always follow suit when it comes to putting up there and they'll always do it pretty much, straight away when it comes to putting up the rate and it usually takes three to six weeks, two to six weeks to lower your rate, if those rates do come down.   Sarah Eifermann: Exactly right, and sometimes they move outside the cycle. We haven't seen it yet but we have seen it in the past and traditionally, is the bank that moves outside the cycle first, if they need to put rates up they will just put them up and they usually don't put them up before 25 basis points. They put them up like 12 to 15 basis points because they kind of hedge their bets that people will be less pissed. If it's not the full 25. There's a bit of social marketing that kind of goes into the assessment on how they do it but effectively they are trying to mitigate what's going on. They're trying to slow the rate that we spend money which blows out price increases so they're trying to stop prices going up because obviously what do you do as a business owner, if your cost of running your business goes up, you put your prices up? So they're trying to stop that from happening. What's affecting all of this at the moment?    Trudi Cowan: Everything. We've got Ukraine, sanctions on Russia which are affecting certain trades, with products from both of those countries, so therefore and labor from both of those countries. I believe there is a massive queue of ships lined up in China.     Sarah Eifermann: Did you see that map this morning of all the ships that are delayed that are sitting on the world at the moment, which is why none of us can get on our stock.  Trudi Cowan: I haven't seen the world one, but I've seen the one of China so that's obviously impacting on products getting to our shores and therefore    Sarah Eifermann: Lockdowns in China have caused that at the moment. right?    Trudi Cowan: Yes, so we've got supply issues, and when you have supply issues that put up the prices of the products that we do have because people are more willing to pay a higher price.    Sarah Eifermann: Yes it does. That's a Supply-demand argument right, first [inaudible 9:27]. You pay me more money, I'll sell it to you first. We also had natural disasters in Australia specifically what's happening on the east coast with flooding, before that we had bushfires and they affect lots of things.    Trudi Cowan: Well, they're affecting crops. They're affecting the transportation of crops. They are increasing the demand on building supplies because people need to rebuild their homes, their roads, and so forth.     Sarah Eifermann: Which is why I can't get a roof Palmer at the moment to fix my roof.     Trudi Cowan: We've got labor shortages in just about every industry that I speak to someone about it.    Sarah Eifermann: Yes and we've got petrol prices. Petrol prices being driven up partly as a result of what's happening with Russia and Ukraine, partly as a result of supply but we also tend to go through this. The last time for me, that I noticed the petrol prices like this was circa 2007/2008 pre-GFC and I was closely following it at the time because the RBA didn't raise rates when they were sitting at around 5.5%. We were expecting them to raise rates because inflation was rising but petrol went up at that time probably went from like $1.20 to $1.40, if only we could go back there. It was having the same impact on the economy, on people's spending because people stopped spending more money just on everyday things because petrol prices were so high that the RBA was self-controlling like self mitigating the market so the RBA didn't raise rates it lasted 18 months perpetual rates, like before petrol prices, before the RBA then came in and mitigated rates and GFC that happened as well.     Trudi Cowan: I guess the difference now is there are still a lot of people working from home so probably not driving their cars as much. So yes, there is the impact of petrol prices per pump, probably not as great as they were in the past.   Sarah Eifermann: 100 percent, agree.   Trudi Cowan: Now that we understand these interest rates rises, what can we do about it, what's the impact on us, of these rates going up? Obviously, the immediate impact is that anyone that's got a variable rate loan, probably they are paying a higher interest rate and therefore has to make larger repayments.   Sarah Eifermann: Your cost of living will increase is pretty much. It impacts everything in your cost of living. Traditionally, the one that we all experienced the crunch, the worst is our mortgage and with property prices having increased over the years the mortgages are usually higher. Hence a small, perceived smaller increase in rates is actually a big impact on your hip pocket, and the joke's always been Oh, I paid interest rates of 17% back in my day.  Sarah Eifermann: You didn't pay 17% on $900,000 you paid it on seventy hundred. My parents bought a property in Melbourne for 70,000 in 1982 and they had borrowed for some renovations and stuff, like 9 to 10 years later, they maybe had a mortgage of about $100,000 but that was probably back then, outskirts of Melbourne, more affluent suburb than if they had been a bit further out. Their mortgage was perhaps a little bit higher than someone else and I also had five children but what I'm getting at is that it's all relative to the value.    Trudi Cowan: There have been lots of tables floating around the internet around if the rates go up this much, this is how much your mortgage is going to increase and it kind of scales it.   Sarah Eifermann: Can I suggest you get a calculator and double-check them because I did and most of them are wrong.   Trudi Cowan: But it gives you a value indicator of things to expect so if you are worried about how much your repayments are going to go up, yes, definitely get your calculators out and run some numbers on what would happen if it goes up another half of a percent or 1 percent.   Sarah Eifermann: It's not base rate, what's the opposite, top rate? Like, know your cap rate. Know what you can afford too, so if rates get to this, what does this mean for you. I suppose it's such a common myth about what is a reasonable rate like we've already talked about interest rates have been so low, it's so relative to your circumstances as to what is a reasonable rate.   Trudi Cowan: Well, a lot of us now are very used to such low rates because that's what we've always had, having a mortgage. Any increase seems unreasonable just because you had the benefit of enjoying such a low rate.   Sarah Eifermann: Now 2008 just before GFC because petrol prices had held rates for so long, but we had inflation, interest rate was at 8 1/2 percent. I mean, this is relative to the conversation, we're talking about knowing what your max amount would be. I had a client that fixed a rate at 8.75 and I was like, What are you doing? And she was like, I can't afford the repayments if the rate goes above that. I was like okay and then GFC happened and rates dropped 3 1/2 percent overnight.   Sarah Eifermann: Know the impact of how it impacts you and know where you're heading and what your affordability is. So we've put together some quick tips for you to ride out our current storm. What's number 1?   Trudi Cowan: Budget Sarah Eifermann: Surprise! Sorry, everybody.   Trudi Cowan: Our favorite topic. Budget, what is the rate rise going to be on your household budget or your business budget? And do you need to therefore tighten your belt in some other areas to make sure that your cash flow works we're not just talking about mortgages, we're also talking about your business loans? What's the impact on your business cash flow if you've got to make larger repayments.   Sarah Eifermann: Are you doing a cash flow forecast? Are you allowing for the cyclical cycle, good word Trudi. Seasonal cycles are what I meant to say about what's coming because depending on where you are in Australia or around the world, we do have listeners overseas. You know, nature has an impact on your trade and your ability to trade and at the moment with all the rain up here, you know, businesses that had scheduled their work because they would normally be able to work outside right now because there's never normally any rain at this time of year. They're all screwed because they can't work because there's so much rain, and so they're so behind on all their projects. So really have a look at the cycles that are coming forward for you. And what these rising rates in materials and cost of borrowing money and cost of living are going to do because the other issue you're going to have is your staff are going to come to you and say we need a pay rise.   Trudi Cowan: Because their costs are going up as well and they're trying to factor in their budget and make the budget work.   Sarah Eifermann: And given that we have a labor supply issue. A massive shortage of qualified, quality staff. Just get ahead of the AICPA with it and maybe go to them and say, Guys, we've done our numbers at the moment. We don't have much budget, but we're actually in a position to pay you an extra $100 a week and offer them in advance and say, even if it's Can you legally do a temporary pay increase, Trudi? What are you allowed to do?   Trudi Cowan: That's called a bonus.    Sarah Eifermann: Do it as a bonus. There you go. So you're giving them a bonus for now and that you reassess that bonus in three months, that way you don't commit yourself to higher wages potentially but it's something you need to be head off now because I am seeing people losing staff because they're not having these conversations and then they are screwed.   Trudi Cowan: And it's so easy for them to get better money at the moment because people are having to pay for new staffing.  Sarah Eifermann: People are desperate for staff.  Trudi Cowan: Some other things you can do as part of your budget is reviewing your costs. Jump on the SFA loan utility prices review, can you be getting a better rate? So you can pay less on the utilities and therefore have more cash for other things such as gas and mortgages.   Sarah Eifermann: When I first did that because obviously I practice what I preach and I test run products. I should also tell you that we don't see any of your private personal details, either. So it's all completely confidential, but when I first did it for myself, I saved $25 a month on my electricity. That doesn't sound like a lot but you take that across a year.   Trud Cowan: The cash could be spent on something else.   Sarah Eifermann: Yes, my dog's food bill for the month. Kidding, she doesn't eat that much, maybe a month and a half. To take it to the vet the other week yes it's pretty much three trips to the vet.   Trudi Cowan: Another thing you can do is consider paying your mortgage weekly or fortnightly rather than or even increasing your actual repayment because what this does is gives you a bit of a buffer in your loan so if you get into trouble down the track in terms of making some repayments you've got some buffer that you can use.   Sarah Eifermann: Like for savings within the facility if you can. If you can even make your repayments now as if it was on the highest rate that you can afford. That way you'll also be comfortable making higher repayments without really feeling the pain and building that buffer that Trudi is talking about at the same time.   Trudi Cowan: I know when I first started with a mortgage every time I got a pay rise, we would just increase how much we paid on the mortgage because you're so used to living off the wage anyway, just put the additional on the mortgage, then it's no different to you.   Sarah Eifermann: I mean, you can always take it out and do things with that. So there's no reason why you couldn't do that. If you were that, it's just for savings in the right facility that saves you interest. I think that all of this is about compounding interest and the benefits that come from saving compounding interest. If you want to know more about interest rates. My intelligence course does go into this and explains all the differences in interest rates and how they value you, so you can jump on and purchase that course and use the coupon of financial fofu for a discount.   Trudi Cowan: Perfect. Have a review. When was the last time you actually reviewed the rates on your loans?  Sarah Eifermann: Last month. Trudi Cowan: Yes, Sarah we're not all like you but if you haven't done it in a while then you know, have a chat with the broker and see if there is a better facility available for you whether there's a better rate for you,  Sarah Eifermann: Every six months you should be pricing your mortgage.   Trudi Cowan: If you've got multiple loans, maybe consider whether they could be consolidated, whether you've got some high-interest loans that could be consolidated to a mortgage, or something that gives you a better rate. Certainly all those sorts of things or credit cards and if you're a business that has got multiple loans, do the same thing. Is there any reason that you can see whether these loans can be reviewed, refinance adjusted so that you'll get a better rate or better pricing facility?   Sarah Eifermann: Absolutely, so we often say and it's very easy for your current broker, if you already use one just ring them up and ask them to have your loans priced. It's a pricing request that's the technical term for it. You'd be surprised what they come back to you with and it gets applied usually within 24 hours as well. So it's much faster than a refinance as well. I also want to drop in here. I know we've talked about it before, but pay your tax bill. Pay your tax bill, because the last thing like borrowing money for tax is difficult at the moment so with rates going up, the last thing you want is to have a Garnishee Notice heading your way from the ATO and we're starting to see all sorts of things with the ATO putting notifications on your credit file that you are in arrears and you're not into payment plans and that will affect everything.   Trudi Cowan: Certainly, the ATO is becoming very active in chasing non-payment of all taxes, business and individual alike so if you do have taxes owing and today drops, the last day for lodging your tax return which means payments are also due so if you have not paid your taxes last year, definitely jump over. Call the ATO, jump into [inaudible 22:32] business portal and check what you owe, and get those payments made.   Sarah Eifermann: So I suppose the biggest conversation in the last week since rates have gone up. Fixed rates, variable rates, what should I do, and what are our options. Well, the reality is you may have already missed the boat for scoring that amazing rate. The reality also is that rates still are at a historical all-time low. The next best rate may still be appropriate for you, so go and get some advice. Work out what works for you. Trudi Cowan: Chat to the bank broker. In some circumstances having that certainty of repayments could be a great benefit for you and maybe you simply cannot afford your loan if it goes up too far. Maybe fixing that loan just can give you some comfort as well. So there are lots of different reasons why it might be appropriate for your particular circumstances, which is why it's worthwhile chatting to your broker and getting that individualized advice.    Sarah Eifermann: The other thing I want to point out and we didn't mention earlier is about servicing rate or assessment rate. The bank has already calculated your ability to afford the loan if interest rates go up, and it's usually 2.25 or 2.5% higher than the rate of the day at the time of your application. So, your interest rate is floated to the assessment rate, or the assessment rate I should say, is floated to your interest rate.   Sarah Eifermann: If your interest rate is 3%, that's the mortgage you are applying for at 3%.They will already add 2.25 to 2.5% sometimes up to 3% on top. So they assess you as if your rate was 5, 5 1/2%, not 3%. They've already mitigated rate rises. This has been happening forever. It's known as your servicing or assessment rate. What it will mean though as rates rise is that being able to put more money on the same amount of income will get harder because you're losing the fat within, what's called surplus income.  Trudi Cowan: You'll need more income in order to get the same loan.  Sarah Eifermann: Hence, your staff coming to ask you for more money. Don't panic too much.   Trudi Cowan: Don't panic because the bank has already considered this and you should be able to afford still.   Sarah Eifermann: You should be able to afford it. You can afford it,  not you should be able to afford it. The bank has already factored in that you can afford this loan. What they don't have control over as we all know is what you spend everything else on so that's why we're talking about trying to reduce your living expenses as best as you can, getting a handle on what your incoming and outgoing income is regularly so that you know exactly where you sit.   Trudi Cowan: If you need to tighten your belt we have got some other episodes we've done previously around saving money and budgeting so it may be worthwhile winding back and having another listen to some of those ones, if you do need some additional tips around that.   Sarah Eifermann: Front of mind, building a culture around good money decisions. That was in Season Three, this season earlier on it's actually a great episode to have a listen to just to be front of mind about choices and how you make decisions and how they impact everything.   Trudi Cowan: To finish this on a happy note, if you do have lots of money just sitting in the bank, banks will also increase their interest, on savings accounts.   Sarah Eifermann: It's true. It's great for pensioners. They go woo, interest rates are going up. Self-funded retirees, people that have got money, cash in the bank. They will get a better return.   Trudi Cowan: On the flip side hopefully, most people will be getting a better return shortly on the cash they see in those accounts.   Sarah Eifermann: Quite true with that. Sarah Eifermann: Alright guys, until next week, we have the amazing Kemi from Follow Me Media and a social media episode coming your way which you definitely want to tune into.  Trudi Cowan: That was great fun, that one.  Sarah Eifermann: Yes. We'll see you next week.   Trudi Cowan: Thanks, everyone. Bye Sarah Eifermann: Bye.

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