Daily Commentary BY THE CURVE TEAM –

Side Effects of RBA Liquidity Injections

28th of July, 2020

Investment options dry up as liquidity continues to flood market.

Whilst not news to interest rate investors, a speech from the RBA yesterday recognised that the extreme liquidity measures they implemented to provide stability to market have lead to significant side effects for investors including depositors.

In a speech yesterday, Assistant Governor of the Reserve Bank (Financial Markets) Christopher Kent outlined what he referred to as the ‘plumbing’ of the current stance of monetary policy. The measures, now common knowledge amongst investors and bank treasuries alike, have led to the side effect where investors have little options and banks having little need for deposit funding.

At all tiers of the market there have been complications. As large banks are so flush with cash on many occasions since early May, calculations for the overnight cash rate have been left to fallback measures as the volume of transactions were not sufficient to provide a useable figure. Banks simply did not need to borrow from the overnight cash market when their reserves in Exchange Settlement accounts with the RBA were so large.

Similarly, with the Term Funding facility currently sitting below 20% uptake in dollar terms, the need for other sources of funding via deposits or bond issuance is near zero. The bank has also seen the amount of cheap at-call deposit skyrocket with Christopher Kent remarking during the speech:

“Also, banks have benefited from an influx of low-cost deposits. Some of that has come from businesses that tapped their lines of credit but then left those funds on deposit. There are a number of other reasons for the increase in bank deposits. This includes increased spending by the Australian Government (net of taxes), which leads to funds being paid out from the government’s account at the Reserve Bank to customers of commercial banks. The purchase of government bonds by the Reserve Bank from non-banks has the same effect.”

For interest rate investors this proposes many serious challenges. Unfortunately it  just isn’t the RBA’s primary concern. The RBA’s sole objective is to maintain market stability and ensure credit is widely available where needed and that is currently very much the case.

The credit market as a whole is currently stagnant. In fact for the month of May credit statistics indicated loans outstanding actually fell. It is expected to fall again in June with the data out Friday. This means banks face the prospect of continued injections from the RBA, credit growth going backwards and customer at-call deposits increasing on top of now over $30bn in superannuation withdrawals most of which has wound up in the banking system. The flow on effect of that is banks will not need to issue new debt securities or raise term deposits for some time.

Supply and demand dynamics in these funding markets of excess supply and lack of demand will undoubtably put downwards pressure on rates and yield in these respective markets for some time to come. Unless credit outstanding begins to grow, liquidity injections fall and customer at-call deposits subside we may very well see a prolonged period of depressed investor earning and significant difficulties placing funds for interest rate investors.

Matthew Dunshea

Client Relationship Manager