Understanding the OCR and how it affects mortgages

You’ve probably heard the term Official Cash Rate (OCR) bandied about in discussions about economics, house prices and interest rates, but what exactly is it and how does it affect Kiwis with mortgages and those who are considering getting one? We’ve explained how it all works here.

What exactly is the Official Cash Rate (OCR)?

The OCR is the interest rate set by the Reserve Bank of New Zealand (RBNZ). Essentially the OCR determines the price of borrowing money, which influences the interest rates banks charge their customers for mortgages, overdrafts, and credit cards. It also influences the number of interest customers make on the money in their savings accounts.

In New Zealand, the OCR is reviewed seven times a year. It’s possible for the OCR to change outside of these seven scheduled reviews if an unexpected event occurs, but this has only happened twice ever—once after the September 11 attacks in 2001 and once because of the COVID-19 pandemic.

How does it work?

Most commercial banks have a settlement account with the RBNZ. On any given day, an individual bank may have hundreds-of-thousands of transactions—some coming in, others going out. This means that when the day is over, they could either be in credit or debit.

The RBNZ covers these financial fluctuations, so if a bank is in debit, the RBNZ will charge them interest to borrow money overnight. If the bank is in credit, the RBNZ will pay them interest. The RBNZ doesn’t put a limit on the amount of money it will borrow or lend, which means banks won’t run out of money.

How is the OCR linked to inflation?

The Consumers Price Index (CPI) records the cost of goods and services and any changes in those prices—it’s a measure of inflation. Since 2002, New Zealand has tried to keep inflation between 1–3%. The RBNZ monitors inflation and tries to keep it within range by setting the OCR.

When interest rates rise, people tend to spend less. This is because those with loans and mortgages have higher repayments and less disposable income. Meanwhile, those with savings accounts and term deposits receive more interest, so there’s a bigger incentive to save.

Supply and demand is one of the key deciding factors for the price of goods and services. When demand is higher than supply, prices go up. When supply is higher than demand, prices go down. When people spend less, there’s less demand, so there is also less pressure to increase prices.

How does all of this affect the housing market?

Right now, the demand for housing in New Zealand is much bigger than the supply, which means the price of property is going up and up. Interest rates are very low, so people are spending more, adding pressure for property prices to increase.

To mitigate this, the RBNZ will probably have to increase the OCR, which means mortgage interest rates are likely to go up. It’s worth noting that the OCR isn’t the only thing that influences interest rates. New Zealand financial institutions borrow money from overseas, so shifts in international markets can affect local interest rates, even if the OCR doesn’t change.

To see the most up-to-date changes to the OCR, visit the RBNZ website.

So, what should you do about your mortgage?

Your circumstances are unique and what works for you may not be the best solution for someone else. To get the lay of the land and figure out your next steps, chat to one of our advisers. If you’re getting a mortgage for the first time, we can find the best lender and rates to suit you, and structure your home loan to meet your goals. If you already have a mortgage, our advisers can talk to you about refixing and refinancing so you can explore your options.

This blog is provided for general information purposes and is not a recommendation you enter into or exit any particular loans or insurance policy. Information on the website does not consider your particular circumstances, including your objectives, financial situation or needs. We recommend you seek advice from a financial adviser before taking any action as appropriate. The Lending People Limited (FSP240365) is a licensed financial advice provider and can provide advice on some types of personal loans. Find out more about The Lending People and how we may be able to help you.