Central Bank research finds banks slower to reflect ECB policy rate changes to new mortgage rates and household deposits

06 September 2023 Press Release

Central Bank of Ireland

As part of its ‘Economic Letter’ series, the Central Bank of Ireland has today (Wednesday 6 September) published research that provides early evidence of the strength of monetary policy transmission by looking at bank interest rate “pass-through” to a range of loan and deposit products, in the euro area and in Ireland.

The publication shows, as at June 2023:

  • While retail interest rates faced by firms and households are reflecting increases in the key ECB policy rates since July 2022, there is variation across loan and deposit products and across euro area countries.
  • For the euro area, pass-through to household deposits and 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 deposits and new mortgages. For other products, pass-through so far has been broadly similar to euro area trends in this tightening cycle.

The euro area has been facing an extraordinary inflationary episode in terms of its scale and persistence. The necessary monetary policy response to return inflation to its 2% target has been unprecedented in the history of the Eurosystem. The key ECB interest rates started to increase in July 2022, and have increased by 425 basis points since then.

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. 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.

Indeed, in recent weeks, there have been a number of announcements from domestic retail banks signalling changes to their deposit interest rates. These higher rates – not incorporated in the analysis published today – will take time to be feed through to official measures of interest rates received by customers’ on their deposits. 

Deputy Governor Vasileios Madouros emphasised the importance of continued research to assess the strength of the transmission mechanism in Ireland:

“Understanding how long and how variable the lags of monetary policy will be in this tightening cycle is more challenging, due to considerable changes in the economy and the financial system since the last major tightening cycle, more than 15 years ago. To date, we have seen weaker interest rate pass-through in Ireland for household deposits and for new mortgage rates, both compared to our euro area peers and relative to our own experience in the last tightening cycle. 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. Given historical patterns, we expect the banking channel of monetary policy transmission to strengthen in the months ahead and will continue to assess the transmission using a wide array of indicators and analysis.” 

Further information:

“Transmission of monetary policy: Bank interest rate pass-through in Ireland and the euro area” authored by David Byrne and Sorcha Foster proposes a new methodology to estimate the strength of interest rate pass-through across tightening cycles and across countries in the euro area.

The data used in the Economic Letter is primarily sourced from the MFI interest rate (MIR) statistics collected and published by the ECB and Eurosystem. The data cover the period from January 1999 to June 2023. They do not incorporate any changes in interest rates which occurred after the end of June 2023. The interest rates are all publicly available and can be sourced from the Statistical Data Warehouse of the ECB. Irish interest rates are also available from the Central Bank Interest Rate Statistics webpage, in particular Tables B.1.1 and B.2.1.

An Economic letter “Supply and Demand Determinants of Inflation in Ireland” was also published today.