Banks' Net Interest Margins and Interest Rate Risk: Communicating Vessels?

Abstract

This study investigates the effects of a flattening of the yield curve and decreasing interest rates on the net interest margin (NIM) of 41 Dutch banks during the period 2008Q1 to 2016Q2. Our contribution to the literature is that we distinguish explicitly between net interest income from pure maturity transformation and a residual part representing market power, compensation for risks and other markups. Our results show that the residual part increased when the yield curve flattened and interest rates fell, while total NIM remained constant. In other words, banks managed to keep net interest margins more or less constant by compensating for a loss in income from maturity transformation.