# Understanding Net Interest Margin: Definition, Formula, and Examples

## What Is Net Interest Margin?

Net interest margin (NIM) measures the difference between the income generated by a bank's credit products and the interest paid to its deposit holders, expressed as a percentage. This metric allows potential investors to [assess a financial institution's profitability](https://www.investopedia.com/ask/answers/101515/do-banks-have-working-capital.asp) by comparing its interest income to its interest expenses.

A positive NIM indicates successful investment management, suggesting that the bank or investment firm is likely to perform well over time. Conversely, a negative NIM points to inefficiencies, prompting firms to consider reallocating funds to reduce debt or seek higher-yielding investments.

### Key Takeaways

*   Net interest margin is a key financial metric indicating the profitability of a bank or financial firm's investment returns relative to its interest expenses, helping investors gauge the entity's financial health.
*   The net interest margin is calculated by subtracting a firm's interest expenses from its investment returns and dividing the result by the average earning assets, with positive margins indicating profitable operations.
*   A bank's net interest margin is influenced by supply and demand for loans and savings accounts, as well as monetary policies that affect interest rates and consumer behavior towards borrowing and saving.
*   In retail banking, net interest margin reflects the difference in interest banks pay on deposits compared to what they earn on loans, influencing the bank's profitability and attractiveness to investors.
*   The average net interest margin for U.S. banks has trended downward over time, closely following changes in the federal funds rate, with economic conditions such as recessions and expansions affecting the margins.

![Net Interest Margin](https://www.investopedia.com/thmb/7o3zDedkKSxE5wYAEtT1G9WPPxM=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/TermDefinitions_Net_Interest_Margin-5cbfd347e04f4acea4af026381bc8b48.jpg)

*— Investopedia / Crea Taylor*

### How to Calculate Net Interest Margin

Net interest margin may be calculated by the following formula:

$\begin{aligned} &\text{Net Interest Margin} = \frac { \text{IR} - \text{IE} }{ \text{Average Earning Assets} } \\ &\textbf{where:} \\ &\text{IR} = \text{Investment returns} \\ &\text{IE} = \text{Interest expenses} \\ \end{aligned}$

Consider this example: Company ABC earns $1,000,000 from its [investments](https://www.investopedia.com/terms/r/returnoninvestment.asp), has $2,000,000 in [interest expenses](https://www.investopedia.com/terms/i/interestexpense.asp), and holds $10,000,000 in average [earning assets](https://www.investopedia.com/terms/e/earningassets.asp). In this case, ABC's net interest margin is -10%, showing it lost more money in interest expenses than it earned. This firm would likely fare better if it used its investment funds to pay off [debts](https://www.investopedia.com/terms/d/debt.asp) rather than making this investment.

### 3.17%

The average net interest margin for all FDIC-insured institutions, as of March 31, 2024.

## What Affects Net Interest Margin?

Various factors affect a bank's net interest margin, with [supply and demand](https://www.investopedia.com/terms/l/law-of-supply-demand.asp) being the main ones.  If demand for savings accounts is higher than for loans, the net interest margin falls because the bank pays more interest than it earns. Conversely, if more consumers borrow rather than save, increasing loan demand, the bank's net interest margin rises. Banks and other financial institutions may also use [maturity transformation](https://www.investopedia.com/what-is-maturity-transformation-7480836) to profit from the difference in interest rates between borrowing and lending funds.

> **Important**
>
> Monetary policy and fiscal regulation can impact a bank's net interest margin as the direction of interest rates dictate whether consumers borrow or save.

Monetary policy and fiscal regulation impact a bank's net interest margin by influencing interest rates, which affect borrowing and saving behavior. Low interest rates encourage borrowing and discourage saving. Over time, this generally results in higher net interest margins. Contrarily, if interest rates rise, loans become costlier, thus making savings a more attractive option, which consequently decreases net interest margins.

## Role of Net Interest Margin in Retail Banking

Most retail banks offer interest on customer deposits, which generally hovers around 1% annually. If such a bank marshaled together the deposits of five customers and used those proceeds to issue a loan to a small business, with an annual interest rate of 5%, the 4% margin between these two amounts is considered the [net interest spread](https://www.investopedia.com/terms/n/net-interest-rate-spread.asp). Looking one step further, the net interest margin calculates that ratio over the bank's entire [asset base](https://www.investopedia.com/terms/a/asset-base.asp).

Let's assume a bank has earning assets of $1.2 million, $1 million in deposits with a 1% annual interest to depositors, and loans out $900,000 at an interest of 5%. This means its investment returns total $45,000, and its interest expenses are $10,000. Using the aforementioned formula, the bank's net interest margin is 2.92%. With its NIM squarely in positive territory, investors may wish to strongly consider investing in this firm.

## Trends and Historical Data on Net Interest Margins

The [Federal Financial Institutions Examination Council](https://www.investopedia.com/terms/f/ffiec.asp) (FFIEC) releases an average net interest margin figure for all U.S. banks on a quarterly basis. Historically, this figure has averaged about 3.8% since 1984 but has generally trended downward. Recessionary periods coincide with dips in average net interest margins, while periods of economic expansion have witnessed sharp initial increases in the figure, followed by gradual declines.

The overall movement of the average net interest margin has tracked the movement of the [federal funds rate](https://www.investopedia.com/terms/f/federalfundsrate.asp) over time. Case in point: following the [financial crisis of 2008](https://www.investopedia.com/articles/economics/09/financial-crisis-review.asp), U.S. banks operated under decreasing net interest margins due to a falling rate that reached near-zero levels from 2008 to 2016. During this recession, U.S. banks saw their average net interest margin drop nearly 25% before recovering in 2015.

## What Factors Affect Net Interest Margin?

A bank's net interest margin is affected by the supply and demand for credit products, and the mix of lending products that the company offers. For example, credit cards typically have much higher interest rates than home mortgages and business loans, so a credit card lender has a higher net interest margin than a commercial bank.

## What Is a Typical Interest Margin?

For banks and other financial firms, a high net interest margin indicates that a company is investing its resources in a way that returns more income than its expenses. For U.S. banks, the average net interest margin [is about 3.3%](https://www.investopedia.com/ask/answers/061715/what-net-interest-margin-typical-bank.asp).

## How Do High Interest Rates Affect Consumers?

Interest rates represent the cost of borrowing money. When interest rates are high, that means borrowers must make higher payments for mortgages, cars, credit cards, and other loans. Interest rates also affect how much businesses must pay for machinery, rent, and new products, which are often purchased on credit. When interest rates are high, businesses may reduce their operations and downsize their workforce, contributing to higher unemployment.

## The Bottom Line

In finance, the net interest margin shows the difference between borrowing costs and lending gains. Banks and credit unions typically borrow money from their customers in order to finance loans to their clients, and that difference represents how effectively a company uses its lending capital.  

> **Article Sources**
>
> 1.  Federal Deposit Insurance Corporation. "[Statistics at a Glance: March 31, 2024](https://www.fdic.gov/analysis/quarterly-banking-profile/statistics-at-a-glance/2024mar/industry.pdf)."
>     
> 2.  Federal Reserve Economic Data. "[Net Interest Margin for all U.S. Banks](https://fred.stlouisfed.org/series/USNIM)."