How do changes in interest rates specifically affect bank profitability?

Changes in interest rates have a direct impact on bank profitability primarily through alterations in lending and deposit rates. When interest rates rise, banks typically increase their lending rates, which can lead to higher income from the loans they issue. This increase allows banks to charge borrowers more while still maintaining competitive rates that attract customers.

Conversely, when interest rates change, banks also adjust the rates they offer on deposits. If banks offer higher interest rates on savings accounts and deposits to attract customers, their cost of funds rises. This balance between what banks earn from loans and what they pay out on deposits is critical for profitability. The net interest margin—the difference between interest earned on loans and interest paid on deposits—is essential for a bank's financial health.

While changes in interest rates can influence the number of loans issued, this aspect is secondary to how interest rates directly affect the rates banks set for borrowing and saving. Additionally, international transactions and customer service efficiency may be influenced by broader economic conditions related to interest rates, but they do not have the same direct effect on a bank's profitability as the alteration of lending and deposit rates does.