Despite failing to pass on the interest rate increase to depositors, bank’s continue to make the argument that higher funding costs are the reason behind higher interest rates which have been passed onto borrowers in excess of official rate hikes by the central bank.

Most of Australia’s online banks have declined to pass on the 25 basis point rate hike to their customers, with some of them even doing the opposite and cutting their promotional rates.

Virgin Money cut its promotional rate by 24 basis points for its online savings account at the start of the week, when this cut is bundled together with the 25 basis point rate hike enacted by the central bank, the effective rate cut equates to 49 basis points.

Bankwest continues to offer the highest promotional online interest rate of 7 per cent despite failing to pass on the interest rate increase to its customers.

ANZ did pass on the rate hike to its customers and currently offers a 6.25 per cent interest rate to all its savings accounts, whilst Westpac and CBA did so only for their highest interest accounts.

Since the financial crisis in 2008, a dramatic battle for deposits erupted between Australian banks, as they sought to diversify away from wholesale international funding markets which are volatile and froze during the crisis, to a more stable depositor based funding.

The latest moves by lenders not to pass on rate hikes to their depositors implies that the intensity of competition between lenders is levelling off.

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NAB said it will end account service fees for both its Classic and e-Banking personal transaction accounts from January 22nd 2010. The fees cost $4 and $5 respectively. NAB said it would also cease levying monthly service and transaction fees for 10 other unspecified transaction and savings accounts.

NAB will also reduce charges for credit card customers who exceed their credit limit and for late payment by $25 to $5 for all credit cards effective December 4th.

The move will affect more than 860,000 NAB customers. Lisa Gray NAB’s personal banking group executive said that the fee cut came with no strings attached.

“Today’s decision is final. There are no disclaimers and we won’t be recouping these fees anywhere else,” she said in a statement on Thursday.

“There is no asterisk, no disclaimers and no rule requiring customers to make a minimum monthly deposit,” NAB said.

The move will cost NAB approximately $110 million in lost revenue from the charges, and follows NAB’s decision to also scrap its $30 overdrawn account fee for personal accounts which occurred earlier in the year.

Despite the abolishment of charges, NAB said it would continue charging fees for use of ATM’s.

NAB’s direct charge for non-NAB customers is $1.50 for a cash withdrawal or advance, and 50 cents for a balance enquiry.

All of Australia’s major lenders have made reductions or cut exception fees on personal accounts, with some changes yet to take effect.

Ms. Gray said the decision by NAB to abolish its overdrawn fees had resulted in the lender gaining new customers, and gave it a competitive advantage over rivals.

NAB is also reviewing fees for all business customers and will announce its decision this year, Ms. Gray added.

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Deposits have flowed in the coffers of the Big Four lenders, which in comparison to their smaller regional rivals, credit unions and building societies, offer lower interest rates.

Despite Prime Minister Kevin Rudd pledge not to let any financial institution, large or small fail, Australians still feel safer holding their money in accounts with a Big Four lender, which allows the Big Four banking groups to pay less in interest than smaller lenders pay.

Had Australians chosen deposit their savings with small regional lenders instead, savers would have collectively earned at least $3.6 billion more in interest over the last year, according to a research report commissioned by the Daily Telegraph and conducted by research firm Core Data.

Retail deposits held with the Big Four banking groups amounted to a record $356 billion, representing an 18 per cent increase in the same month last year, or a staggering $54 billion rise in deposits held with the Big Four.

The huge increase in deposits held with the Big Four banking groups came as a result of a flight to quality by depositors, caused by a global financial crisis, which prompted depositors to seek out banks which they perceived as being the safest, rather than those which offered the highest returns for their deposits.

In actual fact, the Federal Government guarantee of all deposits held by banks, building societies and credit unions, means that deposits held with smaller financial institutions are just as safe as those held at the Big Four.

High interest bearing internet accounts at the Big Four, under perform those offered by many smaller rivals by as much as 1 per cent, which according to Core Data, means that Australian depositors are losing out on as much a $10 million a day or $3.6 billion a year in interest.

The highest paying at call internet accounts offered by the Big Four banks, pay just 3 per cent in annual interest once introductory offers and conditions are stripped out. Smaller regional lenders, building societies, credit unions and even foreign banks who were also covered by the deposit guarantee, pay 4 per cent or more in annual interest, with no conditions attached.

This means for an individual who has $10,000 in savings, depositing that money with a Big Four bank means they would be forgoing an average of $100 a year in interest alone, or one third of the total interest paid by a Big Four bank, this despite the fact that there is no difference in risk.

This means that on $10,000 in savings, Big Four customers are giving up an average $100 a year in interest alone, or one-third of the total return made on online accounts at the major banks, despite no difference in risk.

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The Big Four banking groups, Westpac, NAB, CBA and ANZ all said they were reviewing their respective interest rates.

The banking majors however are unlikely to pass on any more than the full increase in official interest rates to their customers, after facing a intense pressure from the Federal Government, and in particular Treasurer Wayne Swan.

Some market analysts suggest that the increase in deposit rates may in fact be less than the hike in official interest rates. The reason for this is, banks have been forced to pay higher than normal rates of interest on deposits, as result of intense competition by lenders for those deposits, as they sought more stable sources of funding during the global financial crisis.

One market observer believes that interest rates for online deposit accounts could touch 5 per cent.

The last time official interest rates rose, was in March 2008, when the RBA hiked official rates by 25 basis points, to 7.25 per cent.

RBA Governor Glenn Stevens, in his statement, said that the justification for nearly half century low interest rates had now passed, prompting his decision to start tightening.

“With growth likely to be close to trend over the year ahead, inflation close to target and the risk of serious economic contraction in Australia now having passed, the board’s view is that it is now prudent to begin gradually lessening the stimulus provided by monetary policy,” Mr. Stevens said.

Currently CBA and NAB offer the lowest variable interest rates amongst the Big Four, at 5.74 per cent. In June, CBA raised its variable interest rates by 10 basis points, a move which was independent of the central bank’s interest rate policy.

Westpac and ANZ variable rates stand at 5.81 per cent.

Of the Big Four banking groups, NAB undertook the largest cut in its interest rates since the central bank started its rate easing policy in September 2008, cutting interest rates by an accumulated 387 basis points.

CBA has cut 384 basis points. ANZ has cut 381 basis points whilst Westpac cut by 380 basis points.

The common reason that all major lenders have cited for either not passing on in full, cuts in official interest rates to their customers, or raising interest rates independent of the central bank, has been increased funding costs.

NAB on Tuesday said that the cost of funding its deposits, which account for 50-60 per cent of its total funding, has risen by between 100 to 120 basis points over the last 12 months, with the lender expecting increases well into the next year.

Long term whole sale funding costs have also increased, through the cost of domestic debt has declined. However, because term debt was issued for 2-5 year periods, NAB has been rolling over debt at higher prices, which increased its average cost.

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Last week Citi signed a 10 year profit share deal with Virgin Money, which commits its retail banking unit Citibank to provide funding infrastructure and a branch network to the joint venture.

Cit would like to replicate some of the success that Virgin Money had when it first undertook a joint venture of a similar kind five years ago with Westpac. Virgin Money eventually became a major player in the low interest rate credit card segment, eventually acquiring more than 750,000 accounts.

Virgin Money’s joint venture ceased to be operational last year with the majority of its customers accounts ultimately passing on to its joint venture partner Westpac.

Citi beat out Australian banking major National Australia Bank (NAB) in its bid to become Virgin Money’s joint venture partner. NAB has a slightly larger credit card market share compared with Citibank.

Citi is keen to break ground previously held by the major domestic retail banking groups, setting the ambitious target of exceeding NAB’s market share in three years. Citibank’s Australia chief executive has set the goal of increasing market share from its current 8.6 per cent to above 14 per cent in three years.

CBA and Westpac currently have the biggest share of the credit card market holding 17.4 per cent and 16.6 per cent respectively, whilst NAB’s market share stands at around 11 per cent.

“We want to break into the top four and take a market share of 13-14 per cent, and the trajectory of the business is in line with that. We’re going to provide a substantial boost to the growth in cards.” Mr Gori said.

The first credit card to be issued by the Citibank-Virgin Money joint venture is scheduled for launch next July, after which online savings and deposit products will then be rolled out. The accounts will only be able to be operated through the internet or through phone banking, and depositors will not have access to branch banking facilities.

The joint venture has plans for rolling out a credit card linked with Virgin Blue, which will include a rewards points program, in an attempt to directly compete with Qantas associated cards.

Citibank has set a target of 500,000 customers for the new credit cards in the medium terms, and the joint venture also plans to roll out a Virgin branded mortgage product in an attempt to challenge the dominance of the Big Four in mortgage lending.

Mr. Gori said there was room for an alternative banking provider, despite the domination of the big banks.

“I would argue that this is the best time to look at launching a product like this. There is demand for an alternative because there has been so much consolidation. There has been so much market share taken by the Big Four. We think the marketplace and consumers are screaming for an alternative. I think this is the best time.” Mr. Gori said.

Citibank said it would fund the credit card joint venture through its on domestic balance sheet initially, but later hopes to finance the portfolio from retail deposits over the long term.

In the last six months, Citibank has increased its deposit base by $500 million largely through term deposits.

Last year, as a result of the credit crisis, Virgin Money had to exit the Australian mortgage lending business because its status as a non bank finance company made funding either impossible or too expensive to obtain.

Virgin Money continues to operate a domestic superannuation and insurance business.

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Though BankWest has said the base rate for its eSaver account will move in tandem with Reserve Bank monetary policy, it has remained non committal on the spread it pays on its “smart rate” which is currently 1.5 per cent.

BankWest already offers one of the most popular high interest online savings accounts known as Telenet Saver. That account which pays an introductory first year interest rate of 4.25 per cent and a base rate of 3.45 per cent allows for an unlimited number of transactions and “serves a different function” according to BankWest head of retail deposits Paul Vivian .

BankWest through the new account is targeting depositors, with maturing term deposits. Depositors that invested in a term deposit a year ago would have locked in an interest rate of eight per cent or higher, which compared with today’s official cash rate looks is spectacular. Thos deposits which are maturing are faced with interest rates which are half that or even less if they roll over.

Top rates on term deposits are up to 4.5 per cent for three month terms and around four per cent for six and 12 month terms.

The eSaver account has no account maintenance or access fees. The customer must have a linked transaction account for transfers.

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At time of publishing the interest rate that SmartyPig accounts pay is an extremely competitive 4.5 per cent which is paid once a quarter with no fees. The idea behind the account is relatively simple. Individuals set savings goals with a specific purchase decision in mind, which can be as little as $500 for a Blue Ray DVD player, or $5000 for a holiday to Bali.

The savings decision is purely up to the individual with the minimum amount being $250. Once the information is supplied to SmartyPig, it will then calculate the exact amount the individual needs to save each month to reach their goal and deduct the amount automatically from the individual’s current account, with the individual being able to track their own progress.

The most unique feature of SmartyPig is its web 2.0 compatibility. Individuals can make their savings goals public through social networking sites such as Facebook and MySpace, and if family or friends want to contribute to the goal, they can either do so through SmartyPig or through the social networking sites themselves.

SmartyPig also allows savings to be converted in gift certificates of leading retailers such as David Jones, Virgin Blue Holidays and Bunnings. Savings converted into gift certificates get a value boost of anywhere between 4 to 8 per cent.

SmartyPig is an attractive way to start teaching children the value of savings. To open an account one needs to be over 16, but parents wanting to teach their children how to save can open an account in their own name.

Co-founder Jon Gaskell said the technology would improve the spending habits of young Australians, who have a “buy now, pay later” attitude. “Because of the viral and social nature of it we see kids getting involved,” he said.

“We need to rethink how we use credit cards. We need to be socially responsible with finances more than ever. Generation Y are plugged in 24/7. It is the new nuclear family, and we want you to take up saving before you buy into the social space.”

SmartyPig’s deposits are managed by ANZ but customers of any other bank can sign up.

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