Funding Costs
Funding costs represent the expenses a bank incurs to obtain capital and liquidity from deposits, wholesale markets, or other sources.
Meaning in Practice
In practice, funding costs include interest paid on deposits, bonds, and interbank borrowing. They are influenced by market rates, credit ratings, and overall financial conditions. Managing funding costs is essential for maintaining profitability and net interest margins.
Why It Matters
Lower funding costs enhance bank profitability and support competitive lending rates. Rising funding costs can compress margins and restrict credit supply. Stable funding structures contribute to resilience during market stress.
Market Impact
An increase in funding costs can lead to higher lending rates and reduced credit growth. Market perceptions of bank risk directly affect funding spreads. Broad increases in funding costs can tighten financial conditions across the economy.
Example
If market interest rates rise, a bank may need to offer higher rates on term deposits and issue bonds at higher yields, increasing its overall funding costs.