But deposits aren’t the only way banks raise capital. They can also issue bonds, and borrow short-term on wholesale funding markets. Those are usually cheaper than deposits—banks pay less to bondholders than to depositors. So if banks move to having more of their capital from deposits and less from bonds, their costs go up. That is what has happened, as the next chart shows.
Why would they make this change if it is more expensive? After the 2008 crash, when several banks collapsed, banks realised deposits were a lot more stable than short-term funding. New rules came in to force banks to increase their deposit-funding.
The chart above that shows the difference between deposit rates and lending rates is only part of the story. Once you take into account the interest banks pay on their other sources of funding, you have the net interest margin.
Net interest margin is what keeps bank CEOs awake at night. It has been tumbling for years, as the next chart shows. That’s in part because banks have been moving to more expensive deposit-funding.
Net interest margin bottomed out in the pandemic, when interest rates were cut to zero. But just recently it has bumped up again. In its latest profit release, Commonwealth Bank confirmed that its margin had risen to 2.1% in the last six months of 2022. The bank’s official release describes a “recovery in margins due to rising rate environment, partly offset by competitive pricing pressure”.
Net interest margin is what keeps bank CEOs awake at night
That brings us full circle. They have been lifting rates faster for lenders than for depositors. What CBA did most recently—lifting deposit rates faster than lending rates—was just paying back just some of the advantage they had recently gained.
You can see why they might have been keen to pocket some of the difference: that net interest margin line was getting low. Bank share prices have been unimpressive recently, with the big four banks roughly flat over the last year, or falling in price. Banks want to bring something to the market to impress investors and convince them profits will return.
Source: forbes.com