Systematic analysis of banking sector profitability drivers in low interest rate environments

Posted: Apr 19, 2021

• Dr. Prof. Jacob Fernandez
• Dr. Prof. Maria Müller
• Dr. Prof. Nora Park

Abstract

The global financial landscape has undergone a profound transformation since the 2008 financial crisis, characterized by an extended period of historically low interest rates across major economies. This monetary policy environment has presented unprecedented challenges for banking institutions worldwide, fundamentally altering traditional profitability models and necessitating strategic adaptations. While extensive literature exists on banking profitability determinants under normal economic conditions, the specific dynamics operating in persistently low interest rate environments remain inadequately understood. This research addresses this critical gap through a systematic examination of profitability drivers across diverse banking systems operating in low-rate regimes. Traditional banking models have historically relied on net interest margins as primary revenue sources, creating inherent vulnerabilities when interest rates approach the zero lower bound. The prolonged nature of contemporary low-rate environments distinguishes them from previous cyclical downturns, suggesting that temporary adaptations may be insufficient and that more fundamental business model transformations are required. This study investigates whether the determinants of banking profitability identified in conventional economic environments retain their explanatory power when interest rates remain depressed for extended periods. Our research employs a novel methodological framework that integrates quantitative financial analysis with qualitative assessment of strategic orientations, enabling a more holistic understanding of profitability resilience. We introduce several innovative constructs, including a digital transformation intensity metric and a business model diversification index, to capture dimensions of bank strategy that have been largely overlooked in traditional profitability studies. The study also examines the interplay between regulatory requirements and profitability in low-rate environments, addressing ongoing debates about the potential trade-offs between financial stability and banking sector viability.