NEW YORK NZB — NEW YORK -- Interest rate cuts may well prove to be the right medicine for the ailing economy, but they could also carry some side effects for the nation's banks.
Overall, bankers are generally delighted that rates have fallen so dramatically. Their hope, of course, is that loan demand will be stimulated, reinvigorating the economy. Investors, using the same logic, have pushed up bank stocks in recent weeks.
The discount rate, after five cuts in the last year, now stands at 3.5 percent, its lowest level since 1964. And, as Federal Reserve Chairman Alan Greenspan hinted strongly in speaking to the Senate banking and budget committees Friday, further reductions could be in the offing if the economy remains weak.
But some analysts and economists think additional rate cuts may do as much harm as good. If so, the availability of credit may not increase as much in the months ahead as monetary officials hope.
And rates have already gone so low that there are hidden downsides for banks. "Low interest rates are not an unmixed blessing," says Raphael Soifer, an analyst at Brown Bros. Harriman.
Consider net interest margins -- the difference between what banks pay on deposits and receive on loans. The lower rates get, the harder it will be for banks to generate the margins they used to, according to Mr. Soifer. "You can't have a 5 percent net interest margin when all you're charging for loans is 5 percent," he says.
Political pressures could also force banks' net interest margins down, according to Edward Furash, president of the consulting firm Furash & Co.
He thinks politicians with upcoming re-election campaigns will call on banks to reduce the rates they charge borrowers.
"The real issue is whether banks can resist the political pressure to lower their loan rates," Mr. Furash says. If they do not, they will be hard pressed to rebuild their profitability, he says.
Low rates can also cut into banks' deposit bases, Mr. Soifer says.
Thousands of individual investors with certificates of deposit maturing in late 1991 were stunned by the low rates banks were offering on new CDs. Many shifted their money into the stock and bond markets in search of better returns.