Unstable Inference from Banks' Stable Net Interest Margins

This paper shows that stable net-interest margins of banks are uninformative about banks’ interest rate exposure. We show that neither deposits nor market power are essential for achieving stable net-interest margins (NIM) in long-short fixed income portfolios. We show that matching interest income and interest expenses sensitivities to market rate movements is a consequence of achieving stable NIM, not necessarily the causal mechanism that allows it. Stable NIM does not imply near zero interest rate risk according to standard risk measures. Common measures of imperfect pass-through of market rates to bank deposit rates commingle two distinct mechanisms: (1) intentional rate setting and (2) mechanical consequence of comparing the changes in the periodic interest earned on positive maturity fixed coupon portfolios to changes in a short-term interest rate. The mechanical maturity consequence dominates the measured imperfect pass-through of market rates on time deposits.