Borrowing costs

Borrowing costs already above budget

The government has issued around $360 billion in debt since the pandemic hit in March 2020, taking advantage of very cheap borrowing costs of around 1% and extending the average duration of its borrowing to more than seven years, compared to five years.

The projected $1.2 trillion in public debt will have to be refinanced gradually, at a time when the RBA is no longer buying government bonds to drive down yields.

Commonwealth Bank of Australia’s head of bond and interest rate strategy, Martin Whetton, said global bond yields had jumped over the past month, but there was likely to be a correction.

Therefore, the government’s interest rate assumptions seemed right, he said.

“A lot of bond yield curves are inverting around the world, so we’re likely to see lower yields down the road,” he said.

“Interest paid on debt remains minimal at less than 1% of GDP.”

The government forecasts that interest repayments will gradually increase from $17.9 billion in 2022-2023 to $26.3 billion in 2025-2026.

The Treasury notes in the budget that if higher yields are accompanied by faster economic growth than government borrowing, that may be enough to reduce debt as a share of the economy over time.

AMP Capital’s chief economist, Shane Oliver, said relying on the growing economy to reduce the budget deficit and debt was “unlikely to reduce debt fast enough and is dependent on maintaining interest rates.” ‘low interest’.

“Ten-year bond yields have already more than quadrupled since their 2020 low, warning of a sharp rise in interest payments on debt beyond the medium term,” he said.

“And economic growth is unlikely to be strong enough to reduce the debt burden as it did after World War II, unless there is another immigration boom or a 1980s-style focus on increasing productivity – both seem unlikely.”

The budget assumes that the 10-year yield will reach 4% in the early 2030s, before converging to a long-term yield of around 5% over 15 years.

The government’s debt manager, the Australian Office of Financial Management, plans to issue about $125 billion of treasury bills in 2022-23 and will also issue more shorter-term treasury bills, totaling $125 billion. around $150 billion.

But there could be a sting in the government’s tail if the RBA suffers balance sheet losses from its unorthodox monetary policy.

Interest rate increases before 2024 would cost the central bank billions of dollars and reduce its dividends to the government.

The RBA has lent $188 billion to commercial banks through its Term Funding Facility to maintain credit to small businesses and households, and protect the economy from COVID-19.

The RBA credit facility has fixed the borrowing rate at 0.1% for commercial banks for three years until mid-2024.

On the other side of the ledger, commercial banks earn a variable interest rate in line with the RBA cash rate on around $400 billion in deposits deposited with the central bank in so-called foreign exchange settlement accounts.

The RBA posted a loss of $4.3 billion last year due to falling prices of government bonds it bought to stimulate the economy and an appreciation of the Australian dollar.

“As the cash rate rises, the RBA will have to pay more in the cash market than it receives in bonds, so it will suffer a loss and will not be able to pay a dividend,” Mr Downes said. .

“So if you consolidate the RBA and the government, that means the interest charges to the budget will go up and the impact on the budget result is more immediate.”

The 10-year yield was around 2.8% on Wednesday.

Tony Morriss, head of Australian economy and rates strategy at Bank of America, said he expected Australian yields to remain higher than those on US Treasuries, which have risen in recent days due to expectations that the US Federal Reserve will raise rates significantly this year.

“Therefore, we would see Australian yields at 2.9%,” he said.