Dr. Peter Bacon made an interesting quote stating that he thought that
“The first is I think households are going to be more cautious about spending than is assumed in some forecasts. The second is I think the interest rate consequence of international certainty is going to be a deterrent to investment taking place.”
Earlier, Dr Bacon told the audience that Irish firms borrowing money would ultimately end up paying interest rates that were linked to the cost of Irish government borrowings.
“You can call it yourself as to where the risk premium on government bonds is going to go — where it goes there goes general interest rates for companies in Ireland. In the long term, the cost of finance will be 200 or 300 basis points above the cost of government borrowings.”
The difference between government borrowing and bank borrowing is that people don’t lodge money with the state at zero interest. We do pay taxes, and buy low interest state products via the post office, but on the whole, there is no ‘zero rated funds’ which the state have access to.
In fact, by taking over banks (Anglo and to a lesser extent AIB) they could do this if they chose to, but oddly, Anglo pays artificially high interest rates and AIB is going to be kept as a commercial going concern rather than a funding source.
The funds transfer price or ‘blended rate’ is the total cost of money, and it doesn’t necessarily follow that lending rates will therefore be above sovereign rates, having said that, it also doesn’t mean that banks will lend if they can get more money on bonds than they can in retailing loans! It would affect their maturity ladder or maturity transformation but beyond that it still leads to stagnant credit.
That is where the statement comes from; because banks will need to see a return over and above the risk free rate (and I’m not saying our bonds are ‘risk free’ but they do set the national standard) in order to lend otherwise banks will just slow roast over bonds.