Interest rates in many advanced economies have been low for almost a decade now and are often expected to remain so. This creates challenges for banks. Using a sample of 3,385 banks from 47 countries from 2005 to 2013, we find that a one percentage point interest rate drop implies an 8 basis points lower net interest margin, with this effect greater (20 basis points) at low rates. Low rates also adversely affect bank profitability, but with more variation. And for each additional year of "low for long", margins and profitability fall by another 9 and 6 basis points, respectively.
Interest rates in many advanced economies have been low for almost a decade now and are often expected to remain so. This creates challenges for banks. Using a sample of 3,385 banks from 47 countries from 2005 to 2013, we find that a one percentage point interest rate drop implies an 8 basis points lower net interest margin, with this effect greater (20 basis points) at low rates. Low rates also adversely affect bank profitability, but with more variation. And for each additional year of "low for long", margins and profitability fall by another 9 and 6 basis points, respectively.
This note explores the empirical evidence between changes in interest rates and NIMs for different interest rate environments to discover the potential adverse effects of a low interest rate on bank NIMs. Using cross-country evidence can be insightful to assess a situation that is not so common in any individual country. Overall, the new empirical analysis shows that low rates are contributing to weaker NIMs and identifies an adverse effect that is materially larger when interest rates are low. It suggests that these effects can be material for banks in some key advanced foreign economies (AFEs).
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