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RBA reflects on falling business credit demand

The Reserve Bank of Australia has noted that while there are record-low interest rates on SME loans, there is still subdued demand for business credit.

Following on from the Reserve Bank of Australia’s (RBA) Melbourne Cup Day decision to reduce rates to a new record low of 0.10 per cent, governor Philip Lowe has also now released an updated assessment of current economic conditions.

The quarterly Statement on Monetary Policy sets out the RBA’s assessment of current economic conditions, both domestic and international, along with the outlook for Australian inflation and output growth. 

The November update provides an upgrade to the near-term economic outlook, outlining that while the 7 per cent contraction in GDP in the June quarter was the largest peacetime contraction since at least the 1930s, it was “nonetheless not as big a fall as had been feared”, which could largely be attributed to Australia’s early success in bringing new infection rates down, which allowed restrictions on activity to be eased sooner than earlier thought. 

The RBA stated that GDP is expected to increase by around 5 per cent over 2021 and 4 per cent over 2022, which would bring it back to its end-2019 level by the end of 2021, but leave it “well short of the path expected prior to the outbreak of the pandemic”. 

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“The recovery can be expected to be bumpy and uneven, and highly sensitive to further virus outbreaks,” it added.

Business and housing finance

Looking at the take-up of credit, the central bank noted that demand for housing in Australia – and therefore housing finance – has been driven by low mortgage rates and high approvals.

The bank also welcomed that the HomeBuilder grant from the Australian government and some state government subsidies had also supported demand for new housing, despite the lower near-term outlook for population growth. 

The report reads: “Banks have indicated in liaison that the recent increase in housing market activity is, in part, likely to reflect pent-up demand, as borrowers who found it difficult to purchase a property when restrictions were in place have now been able to do so.”

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However, the RBA emphasised that low mortgages were a result of low funding costs to lenders, noting that standard variable rates had declined by an average of 29 basis points between end February and end September 2020, with the average rate paid on outstanding variable-rate loans declined by around 40 basis points.

“Refinancing has been a significant driver of the downward drift in housing rates over the past year or so,” the update reads.

“While the demand for new housing loans initially declined with the onset of the pandemic, external refinancing activity has been very strong. 

“Since March, the major banks have captured a larger-than-usual share of refinancing by offering very low rates on fixed-rate loans and offers of cash rebates to refinance from another lender. 

“While refinancing activity has declined since its peak in May, competition for borrowers is ongoing, with some lenders continuing to offer cash rebates to refinance from another lender.

“This competition for high-quality borrowers has also meant that some households with existing loans have been able to negotiate a lower interest rate with their current lender,” the bank noted.

Indeed, it revealed that rates for new fixed-rate housing loans declined by around 70 basis points between end February and end September, with interest rates on new fixed-rate loans around 55–65 basis points below new variable interest rates at the end of September. 

Given the low interest rate environment, the RBA noted that the proportion of loans at fixed interest rates has increased sharply since March and the stock of fixed-rate housing loans has risen accordingly, to around 25 per cent of housing credit outstanding. 

The RBA also noted that investor demand is “weak by historical standards”, pulled down by the “uncertain outlook for housing prices, as well as the decline in advertised rents and high vacancy rates in Sydney and Melbourne”.

Business credit is declining

Despite strong activity in housing credit, the RBA acknowledged that business credit has declined over recent months, reversing most of the increase recorded in the early months of the pandemic, when many firms sought to build precautionary liquidity buffers. 

The report reads: “Businesses overall have now repaid the lines of credit that they drew down over March and April to shore up liquidity positions in response to the pandemic. Even so, the size of unused credit limits available is significantly higher than before the pandemic. This reflects repayment of existing credit lines as well as an increase in overall credit limits...

“Business investment contracted noticeably in the June quarter, although by less than had been expected because firms took advantage of tax incentives to pull forward equipment purchases,” the report reads. 

It warned that further declines are “likely in the near term” as investment intentions are “weak and unlikely to recover much until demand conditions have improved”. (However, the RBA said that conditions are “a bit stronger” in the mining sector.)

The central bank continued: “The cash rate reductions and other policy measures announced in March have also flowed through to lower interest rates on outstanding business loans. 

“Interest rates on variable rate loans to large businesses declined by 80 basis points between end February and end September. 

“Interest rates on variable-rate loans to small and medium-sized businesses declined by 70-75 basis points over the same period.”

The RBA also noted that several lenders have already announced interest rate reductions off the back of the November cash rate decision, both for home loans and business loans.

However, it revealed that while there are record-low interest rates, demand for new SME loans “appears to be low".

“Commitments for new fixed-term loans to SMEs have declined since June in non-seasonally adjusted terms, particularly for plant and equipment 

“Lending activity for this category was likely to have been boosted before the end of the financial year by the Australian government’s instant asset write-off scheme,” it added.

The RBA also noted the “low take-up to date” in the SME Guarantee Scheme, which it said was “consistent with a lack of demand for credit in general”.

Economic outlook

Looking forward, the RBA said that given the high degree of uncertainty about the outlook, two scenarios are considered in addition to the baseline. 

These represent two out of a range of plausible outcomes around the baseline projections (upside and downside) and are largely based on different assumptions about health outcomes and activity restrictions. 

The baseline scenario assumes that no additional large outbreaks and accompanying strict containment measures occur within Australia and that restrictions continue to be gradually lifted nationally (or are only tightened modestly for a limited time). 

Some restrictions on international departures and arrivals are assumed to be in place until around the end of 2021. 

Under this scenario, GDP is expected to contract by around 4 per cent over the year to December 2020, but then grow by 5 per cent over 2021 and 4 per cent over 2022. The unemployment rate peaks at a little below 8 per cent in coming months, before gradually declining in 2021 and 2022 to just above 6 per cent at the end of the forecast period. Inflation is expected to pick up a little alongside a modest reduction in spare capacity, to be around 1½ per cent by the end of 2022. 

However, the RBA also provided a “plausible downside scenario” should Australia experience further major outbreaks and a loss of control of the virus in other economies.

In this scenario, a substantial share of the population faces renewed distancing restrictions and curbs on business activities, and the opening of international borders is delayed further. 

The reimposition of restrictions domestically is assumed to weigh heavily on confidence and significantly slow the recovery in consumption and business investment, with the unemployment rate peaking at around 9 per cent in late 2021 and declining only a little in 2022.

Overall, the RBA estimates that, following an anticipated decline in the September quarter, dwelling investment would increase as the construction industry in Victoria resumes normal levels of activity and the HomeBuilder program supports detached building activity in most states. 

“Growth over the latter part of the forecast period is expected to slow because the HomeBuilder program will have pulled some activity forward, particularly in the detached housing market, and because the protracted period of low approvals has diminished the pipeline of higher-density activity.”

Meanwhile, it predicts that non-mining business investment is expected to be “very weak over the next year or so”, but not quite as weak as expected at the time of the August statement. 

“While disruptions to construction activity have been less severe than previously expected, non-residential construction investment is still anticipated to decline as the current pipeline of work yet to be done is completed and few new projects commence,” it reads.

“The easing in restrictions in Melbourne will support construction activity in the near term as firms attempt to catch up on work that had been postponed in the September quarter. 

“A gradual recovery in non-mining business investment is expected to get underway in the first half of 2021 as the domestic recovery continues, led by investment in machinery and equipment. 

“Tax incentives, which include the accelerated depreciation allowances over the next two years that were introduced in the Australian government budget, are expected to encourage some firms to bring forward investment plans and enable others to invest by easing cash flow constraints.”

[Related: Cash rate won’t rise for 3 years: RBA]

RBA reflects on falling business credit demand
RBA reflects on falling business credit demand
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Annie Kane

Annie Kane is the editor of The Adviser and Mortgage Business.

As well as writing about the Australian broking industry, the mortgage market, financial regulation, fintechs and the wider lending landscape – Annie is also the host of the Elite Broker and In Focus podcasts and The Adviser Live webcasts. 

Contact Annie at: This email address is being protected from spambots. You need JavaScript enabled to view it.

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