Banking on Deposits: Maturity Transformation Without Interest Rate Risk
92 Pages Posted: 22 Mar 2017 Last revised: 29 Jul 2020
Date Written: December 30, 2019
We show that maturity transformation does not expose banks to interest rate risk---it hedges it. The reason is the deposit franchise, which allows banks to pay deposit rates that are low and insensitive to market interest rates. Hedging the deposit franchise requires banks to earn income that is also insensitive, i.e. to lend long-term at fixed rates. As predicted by this theory, we show that banks closely match the interest-rate sensitivities of their income and expenses, and that this insulates their equity from interest rate shocks. Our results provide an explanation for why banks supply long-term credit.
Keywords: Banks, maturity transformation, deposits, interest rate risk
JEL Classification: E52, E43, G21, G31
Suggested Citation: Suggested Citation