Essay Example: Higher Interest Rates Point to More Bank Profits

Interest rates in commercial banks

In the recent past, interest rates have become an important factor in the running of commercial banks. Investors have come up with the idea that higher interest rates always translate to more profit for the banks. European banks earnings, for example, is expected to increase by 5-6 percent due to the increase of euro zone rate by ten basis point. Additionally, European banks such as UBS which has US exposure, are already recording higher earnings due to the interest increase rate by US Federal Reserve Board.

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Researchers like Morgan Stanley noted that retail banks that possess big books of variable rate loans enjoy more benefits since they have the ability to raise interest rate more easily after an official rate rise. The researchers also pointed out that bank such as Bank of America, JPMorgan and Citigroup are better positioned to benefit more due to the increased interest rate. On the other hand, the higher interest rate does not always favor the bank, for example when the interest rates increase, the value of the banks' portfolios of bonds reduces. Morgan Stanley estimates that the tangible book value will fall this year by approximately 1.5 percent, this is due to the increase in interest rates on Italian banks bond portfolios.

Claudio Borio, a chief economist, stated that a higher interest rate is a benefit to the bank, but that will depend on the condition of the economy. If the interest rates are high because of the strong economy, then the bank will stand to benefit, but if the rate increases so suddenly leading to loan defaults, then that will present some problems to the banks. He also stated that the sudden increase in interest rate would have an impact creditworthiness of their customers, customers adjustments to the higher rate of interest will be an uphill task.