The RBA moved rates, but does it move the dial?

Following the RBA's recent rate cut from 4.10% to 3.85% on May 20, 2025, the question is whether this move will significantly impact the economy. While this key policy shift influences borrowing and lending costs, its practical effect may be limited. For instance, after the previous rate cut in February, only 1 in 7 of Commonwealth Bank mortgage borrowers opted to reduce their payments, suggesting a muted immediate impact on household finances.

Although consumer finance arrears are rising, the two recent 0.25% rate cuts are unlikely to materially ease the burden for those facing interest rates above 10%. These higher arrears have not spilled over into defaults beyond what is expected on average in a credit cycle. A good proportion has occurred as the forbearance during COVID times comes to an end so is not indicative of heightened cyclical stress.

The primary impact thus far has been on market expectations for future rate cuts, pushing the projected "terminal rate" down to 3.05% with a plateau anticipated around June 2026. While borrowers can lock in rates based on these expectations via the swap market, current demand for this is low.

Interestingly, despite the RBA softening its rhetoric, the 10 year bond rate is not only higher than today’s cash rate, it is higher that the cash rate was before any of the RBA cuts. Borrowers looking to lock in current rates for 5 years will pay a base rate of around today’s cash rate with none of the expected future easing offering them relief.

Conversely, investors who locked in rates before the cut have seen losses; longer-dated fixed rates have risen due to concerns about trade wars and stagflation. The supposedly “defensive” move has led to a loss of value at least in the short term.

Corporate borrowers with higher financing costs are also unlikely to see a substantial benefit from these small rate reductions. The pricing for this segment is relatively inelastic, more often responding to lender competition than underlying base rates. Interestingly this also means pricing may be more stable for them when base rates rise at different times in the cycle.

Ben Bernanke was the Chair of the Federal Reserve during the GFC and famously said that setting interest rates was 98% talk and 2% action. Analysts are more focused on the RBA's commentary and the potential economic response. The bond market's weakening post-announcement suggests concerns about the RBA being too relaxed on inflation. The typical AUD depreciation following an RBA cut when the Fed holds rates also didn't occur, again due to inflation worries.

There are some identifiable winners from the lowering of rates on Tuesday, primarily mortgage pools where borrowers will be less stressed in meeting their obligations. A large proportion may use it as an opportunity to build headroom by keeping payments at previous levels. Traders will benefit because mixed messages bring trading opportunities.

Borrowers who pay tight spreads will see their interest bills proportionally cheaper than those paying high spreads. Some borrowers will find they now pass affordability or income coverage tests they may have struggled with.

Investors with short dated fixed rate loans or bonds will see better returns than those receiving floating rates for the same types of assets, but those with fixed income index portfolios will underperform floating rate pools due to unrealised capital losses despite the gently lower floating accrual.

Every participant in the economy will have a subtly different experience with this cut but the true impact is how they digest this news in planning for the future. 25 basis points truly has little effect. The economy is not  telling us that the consumer is at the end of their tether nor that inflation is properly tamed. Although it won’t sell any tabloids, the headline should read “keep calm and carry on.”