Wondering how do interest rates affect dollar value? We’ve got the answers – and why it matters!

As mortgagors rising interest rates are not usually viewed with much enthusiasm. In fact, for most Australian home loan borrowers, it’s a sign to tighten our belts (fewer lattes and more home brews!).

But rising interest rates can have some benefits, particularly for Australians looking to travel or invest abroad or if you own a business that buys goods from overseas. And that’s because it can increase the value of the Australian dollar exchange rate.

How do interest rates affect dollar value?

As the RBA explains it: ‘All else being equal, an increase in Australian interest rates contributes to the exchange rate being higher than otherwise.’

So, what does that mean? And why does it matter?

Well.. all things being equal, if our interest rates increase and the interest rates in other countries stay the same, then Australian assets – such as government bonds – that overseas investors are interested in, become more attractive. And that’s because the assets are paying a higher interest rate than before, and likely higher than the rate those investors would be able to obtain in their own countries.

When foreign investors purchase more Australian assets more money comes into Australia, and the demand for Australian dollars increases. Just like any product – the more people want it, the more they’re willing to pay for it. So when the demand increases, and the supply decreases because of that demand, Australian dollars appreciate.

Of course, it's important to recognise that 'all things' are never 'equal'. And that interest rates are only one element that plays into the value of the Aussie dollar and its attractiveness to foreign investors. However, it's important to recognise the impact that it can and does have. 

Why does a strong exchange rate matter?

While we’ve been struggling with increasing costs across Australia generally, rising interest rates may see homeowners (like yourself!) able to purchase imported products at a lower cost. Exchange rates strongly impact the prices you pay for imported goods. So, when those prices decrease, you may be able to buy more for less.

In addition, it’s a good time to consider travelling overseas, particularly to countries who do not have a rising interest rate. Or whose interest rate is rising less as compared to our own. You’ll find that the Aussie dollar goes further than ever before. And if you’ve ever wanted to invest overseas, now might be a good time.

What does the RBA interest rate mean generally?

Of course, as mortgagors our interest goes beyond how do interest rates affect dollar value. We still have to be concerned about the rising interest rate and our own home loans. Because when the RBA cash rate rises, borrowers can be impacted. And the higher it goes, the more impacts we’ll feel.

As interest rates go up, our ability to borrow goes down. Higher interest rates make it more expensive to borrow money. And when we’re spending more on our mortgages, we spend less money on goods and services overall.

Example

As of November 2022, the cash rate is 2.85% – a significant rise of a cumulative 2.75% since May. However, lenders will add a percentage or two to that amount for any loans the offer. So loans currently are offering 4.39% and 4.60%, for example.

The more the cash rate rises, the more the interest rates on mortgages rise as well. And the bank adds a serviceability buffer to calculate what you can afford. Because of that, home owners won’t be able to afford to borrow as much, and their costs each month will continue to rise.

Consider refinancing

When interest rates are rising, it’s a great time to consider refinancing. This gives you an opportunity to seek out a lower interest rate. It also lets you choose a new loan that may have flexible features that could allow you to save money and pay off your loan sooner. These might include redraw facilities, offsets or even split rate home loans.

Rising interest rates don’t have to be doom and gloom. Our Lending Loop mortgage brokers are here to help you get the best loan for you, even in a rising rate market. We will even negotiate with lenders on your behalf to ensure you’re getting the absolute lowest interest rate possible. And that will mean you have more money to spend on that overseas holiday while the exchange rate is strong!

Read more: When can you refinance a home loan?

Read more: How long does it take to refinance a home loan?

For more of the latest finance plus home loan related news, check out Latest News at LendingLoop.com.au.