Expect depositors to take the hit!
Media outlets reported on Thursday that the Federal Government was planning to introduce a deposit insurance levy on Australian Banks. Details of the proposed change have just been released.
The levy is to be implemented by the way of fixed fee of 0.05% on deposits up to $250,000. There are a number of possible reactions by the banks to such a levy. Banks will either (i) absorb the fee and deliver a lower profit to shareholders, (ii) source additional revenue through fees and higher mortgage rates, or (iii) reduce the deposit rates paid to investors.
Given the oligopolistic nature of the Australian banking industry, we think outcome (iii) is most likely. Indeed, Australian Bankers Association head Steven Munchenberg said that he expects that the banks will pass the levy on to customers in terms of lower interest rates on their deposits. Combined with an anticipated cut in official interest rates from 2.75% to 2.50% at the RBA’s meeting next Tuesday, Australian savers face the prospect of a one-two hit to their income stream in quick succession, after already suffering significant reductions in income streams following a series of successive interest rates cuts since October 2011. The question investors need to answer becomes what should they do in the face of these changes.
Sacrifices in income levels and lifestyle are embedded in the lower returns from bank deposits, making alternative sources for yield more compelling. Take for example, the current Australian equity market yield of around 4.3% net. After including the full benefit of franking credits, the gross yield of the Australian share market becomes 5.7% which is more than double the RBA cash rate.
Finally - it must be remembered that this is not yet law, and it's outcome depends on the timing of the election, and who wins.
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