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Home owners dance the repo jig
The Reserve Bank's repurchase tender system largely sets the commercial
banks' cost of money, writes LUCIENNE FILD
It's a question often asked by frustrated home owners with mortgage bonds and other lenders. Here's why.
The repo rate - the rate at which the Reserve Bank lends to commercial banks - plays an important role in determining banks' funding costs, and is therefore regarded as the most important short-term money rate. As a result, sustained movements in the repo rate will always end up in a compensating move in banks' prime lending and deposit rates - either up or down. If the prime rate goes up, the home loan rate is sure to follow. The repo rate is currently at 21.85%. The average prime rate is 25.25% and the average home loan rate 24%. John Cruickshank, director of domestic treasury at Standard Bank, says an increase in the repo rate signifies the Reserve Bank has tightened monetary policy. This is done for two reasons. If monetary policy is tight, there is less money available for lending. The repo rate moves up, commercial interest rates follow and consumer borrowing slows. The aim is to prevent borrowing from fuelling inflation (the number one enemy of the Reserve Bank). Another reason for tightening policy, says Cruickshank, is to increase interest rates in an attempt to fend off currency speculators. South Africa's monetary system is structured in such a way that commercial banks obtain a significant amount of their short-term funding from the Reserve Bank. Until March this year, funding was provided at the bank rate - a rate fixed by the Reserve Bank. The bank rate was changed at the discretion of the Reserve Bank depending on changes in the country's economic fundamentals. In a bid to introduce more flexibility in short-term interest rates, the Reserve Bank launched a new system in March this year - the repo system. Every day, the Reserve Bank makes a certain amount of funding available to commercial banks. This is done through repurchase (repo) transactions, which involve banks selling securities to the Reserve Bank in return for funds against the obligation to buy back the securities at an agreed price at a future date - hence the name repo system. The Reserve Bank can make such funds available at a variable rate or at a fixed rate. The fixed rate was applied recently to head off currency speculators who were betting on the rand's further decline. The Reserve Bank's aim was to send a clear signal to the currency market about the direction of monetary policy. When the variable rate is used, banks must determine at what rate to submit their bids. The repo rate is the average of the rates attached to all the successful bids. If banks are unable to obtain sufficient funding from the repo tender, they can make use of the marginal lending facility. However, interest on funds borrowed from this facility is at a punitive rate - currently 20% above the repo rate. While the repo system allows the Reserve Bank to obtain more feedback from the market, the Bank still controls monetary policy as it steers the repo rate in the direction it chooses. If the Reserve Bank wishes to tighten monetary policy, it does so by making less money available at the repo tender than it forecasts is required by the banks. To avoid borrowing at the punitive marginal lending rate banks increase the rate at which they bid for the repo funds, pushing the repo rate upwards. Conversely, if the Reserve Bank wants the repo rate to move down, it can provide more funds at the tender than it forecasts is required by the banks.
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