Conditions for the Bank's Approximate Profit Formula to be Exact
The bank's profit formula, profit ≈ (interest rate on loans − interest rate on deposits) × total lending, is typically an approximation. However, it becomes an exact calculation under specific conditions: when the bank's total loans are precisely equal to its total deposits, and its other assets do not generate any interest or revenue.
0
1
Tags
Economics
Economy
Introduction to Macroeconomics Course
Ch.6 The financial sector: Debt, money, and financial markets - The Economy 2.0 Macroeconomics @ CORE Econ
The Economy 2.0 Macroeconomics @ CORE Econ
CORE Econ
Social Science
Empirical Science
Science
Related
Conditions for the Bank's Approximate Profit Formula to be Exact
Calculating Bank Profit Using the Interest Rate Spread Formula
A commercial bank has issued a total of $500 million in loans at an average interest rate of 7%. It holds $490 million in customer deposits, on which it pays an average interest rate of 2%. Using the standard approximation method based on the interest rate spread and total lending, what is the bank's estimated profit for the year from these activities?
Evaluating a Bank's Profit Approximation
Rationale for the Bank Profit Approximation
To approximate a bank's profit, the interest rate spread (the difference between the rate on loans and the rate on deposits) is multiplied by the total volume of deposits the bank holds.
Learn After
A bank's profit can be calculated by multiplying the difference between the interest rate it charges on loans and the rate it pays on deposits by its total volume of lending. Under which of the following simplified balance sheet scenarios would this calculation be exact rather than an approximation?
Bank Profit Calculation Analysis
Evaluating the Precision of a Bank's Profit Formula
Conditions for Exact Bank Profit Calculation
A commercial bank's profit calculation,
(interest rate on loans − interest rate on deposits) × total lending, becomes an exact formula rather than an approximation if the bank's total volume of loans is precisely equal to its total volume of deposits.