GDC’s interest rate conundrum

'Bauldie' as his is now.

Opinion

My fault really. Part of why I write is to make some of the weirder aspects of council plain. But I’ve never really thought of explaining our interest rate conundrum, and I’ve only just realised, courtesy of a query, that people will quite logically think the council, when borrowing, can use its size and reliability to negotiate better interest rates than most businesses can achieve.

The question arose because of our decision to pass the rebuild of municipal buildings over to our wholly-owned subsidiary, Gisborne Holdings Ltd. Surely, I was asked, the council could command lower interest rates on a $10 million or $12m loan, therefore it was dumb to give the job to GHL, because it would cost more. Waste of ratepayer money just to improve bank profitability.

Sorry, not correct. The council is required by legislation to be financially “prudent”. (Well, fair enough, you don’t really want me betting a couple of million of your dollars on the Melbourne Cup.) That is considered to mean we need interest rate “swaps”. Basically that means we take out long-term insurance to keep our interest rates on an even keel, not subject to the vagaries of financial meltdowns, etc, because you just can’t plan forward finances on our budget unless you have a reasonable idea of what your liabilities are.

Interest rate swaps are wonderful things when rates are high, flying up round 8 percent and more. When they were, we made money, because our swaps kept our interest rate around 6.2 percent. Whoopee, good thinking fellas, clever boys and girls. Unfortunately, now that you can borrow between maybe 4.5, 5 percent, our swaps keep our interest rate at 6.2 percent. Ouch! What dickhead came up with that idea? Stupid boys and girls.

Um, to be fair, our swaps are becoming more favourable — we can borrow at around 5.5 percent now. But that is still way above what GHL can borrow at. Passing the job on to them saves, um, too complicated for my mental arithmetic, but a lot of money.

When people say no difference whether the council borrows $12m or GHL borrows $12m, it’s still ratepayer debt, they are not correct. Big difference, because GHL can borrow much more cheaply than the council can. There are other reasons too, but no space for them.

There are some among us who think the whole idea of interest rate swaps is just another way for the finance industry to make money, that when our current swaps run out we should just take the risk of higher interest in future. And let’s face it, there is no sign that we are likely to return to a high interest regime any time soon. Hmm, though there was also no warning that the high regime was going to suddenly drop through the floor either. So we are probably wrong.

Fair enough to take risks with our own money, not really on to take risks with your money. World finance is a bit of a mystery. If you think you know what is going on, you probably don’t!