LAST UPDATE | 6 Sep 2023

CENTRAL BANK RESEARCH has found that banks in Ireland are slower to reflect European Central Bank (ECB) policy rate changes to new mortgage rates and household deposits than in the euro area. 

In its Economic Letter published today, the Central Bank said that there is variation across loan and desposit products in Ireland and across the euro area. 

This comes as the ECB increased interest rates, for the ninth consecutive time, by 0.25% in July. 

This increased the ECB’s benchmark deposit rate to 3.75% – bringing the interest rate to the highest it has been since May 2001.

The key ECB interest rates have increasd by 425 basic points since July 2022. 

The ECB’s letter today outlined that for the euro area, pass-through to household deposits to business overnight deposits has so far been weaker in this cycle compared to the last cycle.

For mortgages, pass-through appears to have been in-line with historical norms, while for business loans and business term deposits, pass-through has been stronger.

For Ireland, relative to the euro area as a whole, pass-through so far has been weaker to interest rates on household deposit and new mortgages rates.

For other products, pass-through so far has been broadly similar to euro area trends in this tightening cycle.

The Central Bank explains that monetary policy is transmitted to the economy, and ultimately to inflation, through a number of channels. One of these is through the interest rates set by banks on loans and deposits.

The Central Bank said this channel of monetary policy transmission is likely to strengthen in the coming months. Therefore, estimates of pass-through for this cycle can be interpreted as early evidence, it said. 

The Bank noted that there have been a number of announcements from Irish retail banks in recent weeks signalling changes to their deposit interest rates. It said these will take time to be feed through to official measures of interest rates received by customers on their deposits. 

“Understanding how long and how variable the lags of monetary policy will be in this tightening cycle is more challenging, due to the considerable changes in the economy and the financial system since the last major tightening cycle, more than 15 years ago,” Central Bank deputy governor Vasileios Madouros said. 

“To date, we have seen weaker interest rate pass-through in Ireland for deposits and for new mortgage rates compared to our euro area peers,” Madouros said.

He said that “potential factors driving these trends include the relatively ample deposit base of the Irish retail banking system and the evolution of competitive dynamics within the market for banking services”.

“Effective transmission of the ECB’s monetary policy to the domestic economy via the banking system is key for the fight against inflation,” he said.

“Given historical patterns, we expect the banking channel of monetary policy transmission to continue to strengthen in the months ahead and will continue to monitor the transmission using a wide array of indicators and analysis.”

Supply and demand

The Central Bank also published an Economic Letter on Supply and Demand Determinants of Inflation in Ireland today. 

The letter concluded that both supply and demand factors are responsiblke for the current inflationary environment. 

It noted that in the past year, on avager around three fifths of inflation has been a result of supply factors, with demand-driven inflation accounting for around a third of inflation. 

The letter said the analysis carried out “shows that the recent surge in inflation has mainly come from the supply channel, and it continues to have a pronounced effect on inflation into early 2023″. 

It said that while energy-related price increases played a key role in the initial rise in supply-driven inflation in 2022, domestic factors have “become a more important driver of inflation over time”. 

“From a policy making perspective, the key take away is that for inflation to fall further, it will require an easing of both supply and demand pressures, with the latter increasingly important for services in recent months.” 

Finance Minister

Speaking last Thursday, Minister for Finance Michael McGrath told bankers and vulture funds of the “imperative” of supporting mortgage holders through the period of increased interest rates.  

The Minister met with representatives of the banking and mortgage sector, including the CEOs and senior representatives of the retail banks, retail credit firms and credit servicing firms to discuss the measures they can take to assist customers at this time of rising interest rates. 

The Banking and Payments Federation Ireland, the Central Bank of Ireland, Citizens Information Bureau (and its Money Advice and Budgeting Service) and the Insolvency Service of Ireland were also represented.

In a statement after the meeting, McGrath said there was a need to ensure the financial system identifies how consumers could be better supported at this time. 

He said there is the “potential for greater coordination by firms including in the area of switching, and where the information provided to consumers, and the options available to them, could be enhanced”. 

“I am acutely conscious of the impact that rising interest rates are having on mortgage borrowers. Many mortgage holders have been in direct contact with myself, my Department and political colleagues, sharing their own personal story and I know that many are worried about their ability to pay their mortgage now and in the future,” he said. 

With just over a month out to budget day and with the minister already stating publicly that interventions are being considered, McGrath said:

“It will now be necessary for the industry to demonstrate that they are delivering for borrowers in difficulty with supports and certainty, and developing long-term sustainable solutions for borrowers.

“I have asked the industry representatives to reflect on the discussion today and to set out their response as a matter of priority.”

With reporting by Christina Finn