Banking Practice Exam 2025 – 400 Free Practice Questions to Pass the Exam

When a bank anticipates that interest rates are going to rise, the strategy it adopts can have significant impacts on its balance sheet and overall profitability. Issuing fewer variable rate loans is a sound approach because variable rate loans initially have lower interest payments for borrowers, but the rates adjust upwards as market rates increase.

If a bank continues to issue variable rate loans during a time of expected increasing rates, it could face lower income as borrowers' payments rise, potentially leading to higher default risks if borrowers cannot keep up with increased payments. Instead, reducing the issuance of variable rate loans allows the bank to avoid the erosion of future interest income and better manage its interest rate risk, positioning itself more favorably against an upward trend in rates.

This tactic helps the bank to stabilize its revenue streams in a fluctuating interest rate environment. While issuing fixed rate loans or short-term CDs might seem attractive, they carry different implications for interest rate sensitivity. A bank's focus should be on managing its interest rate risk, and by issuing fewer variable loans, it limits exposure to potentially rising costs associated with those loans.