Shock interest rate rise justified, says Westpac

WESTPAC has defended its 45-basis-point hike in variable mortage rates, saying it's feeling the pressure from funding costs.

Analysts doubt major banks will move as high as Westpac's 6.76 per cent rate on competition grounds.

WESTPAC has strongly defended yesterday's shock 45-basis-point hike in variable mortgage rates, arguing its expanded interest margin in the bank's recent annual result would have been eroded if the bank had continued to ignore commercial reality.

As other banks put their rates under review, allowing Westpac to absorb a furious Wayne Swan's warning of a customer backlash, even seasoned bankers expressed surprise at Westpac's unprecedented move which was 20 basis points above the Reserve Bank's cash-rate increase, The Australian reports.

Banking analysts last night doubted the other major banks would move as high as Westpac's 6.76 per cent rate on competition grounds.

Westpac's group executive retail and business banking, Peter Hanlon, said customers could be confused about the need for the dramatic variable-rate increase, given Westpac had reported a 30-basis-point increase in its 2009 interest margin to 2.32 per cent.

"But I would stress that the margin looks back, not forwards, and we are feeling the pressure from rising average funding costs," Mr Hanlon told The Australian last night.

"Our average cost of funding has risen quite dramatically, and it would have driven margins back over time, remembering that the increase in the 2009 margin only took us back to where we were two years ago."

As is the custom with out-of-cycle rate rises, Westpac went into some detail yesterday to explain its move. It said more expensive long-term funding now accounted for 65 per cent of the bank's wholesale funding mix, up from 30 per cent two years ago.

This had driven average wholesale term funding costs 80 per cent higher than a year ago. Examples in the last few weeks included a $2 billion, three-year bond issue at 110 basis points over the benchmark rate, and a 10-year raising of $10bn at 212 basis points over benchmark.

Before the financial crisis, the usual spread would have been much narrower, sometimes as low as 15 basis points. Deposits were also a lot more expensive, as lower-tier lenders unable to access wholesale markets bid strongly for funds.

Mr Hanlon said interest rates offered for Westpac's online savings and term deposit accounts were among the highest ever offered.

"That reflects our strong commitment to lessening our reliance on volatile offshore term funding markets," he said.

The rate rise came soon after the RBA lifted the official cash rate to 3.75 per cent, expressing concern a renewed resources boom could push the Australian economy back into fast-tracked growth and hold back the recovery of other business sectors.

The chance of a February rate rise, which would be the fourth in the current monetary policy tightening cycle, is at 52 per cent, which economists consider a line-ball call.

Read more on Westpac's shock interest rate rise here