New-Zealand Mortgage-Official Cash Rate Spread: An Econometric Revisit

This study revisits and broadens the question as to whether asymmetries exist in the New Zealand mortgage and short-term interest rate spread. Frost and Bowden’s defined spread is replaced by the difference between the mortgage and the official cash rates and is interpreted as the mortgage premium in this revisit. In addition to confirming asymmetries findings by Frost and Bowden, this revisit reveals three new results that were not addressed before. First, the estimation results indicate that the mortgage premium experienced a structural break in January 1994, corresponding to the anticipation, as well as the implementation, of the 1994 Fiscal Responsibility Act. Secondly, the empirical results reveal that New Zealand banks asymmetrically price their mortgage rates consistently with the consumer reaction hypothesis as articulated by Stieglitz and Weiss (1981). In fact, estimation results reveal that the mortgage premium adjusts to the threshold faster when the official cash rates fall relative to the mortgage rates, widening their difference, than when the official cash rates move in the opposite direction. Third, the findings also reveal the bidirectional Granger causality between the mortgage rate and the official cash rate, indicating that the mortgage rate and the official cash rate affect each other’s movement. These findings mean that the housing mortgage market responds to monetary policy, and monetary authority also responds to housing mortgage market conditions because the official cash rate is the primary instrument of the monetary authority.