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If Trump’s Economic Proposals Translate Into Higher Interest Rates, Banks Will Make a Lot More Money

By Motley Fool Staff – Nov 26, 2016 at 1:51PM

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Higher fiscal expenditures could spur higher inflation, which would encourage the Federal Reserve to raise interest rates.

We still don't know exactly what the incoming Trump administration will do in terms of economic policy, but if it follows through on its promise to boost economic growth through aggressive fiscal policy, then that could be very good news for banks.

In this clip from Industry Focus: Financials, The Motley Fool's John Maxfield and Gaby Lapera discuss why Trump's proposed fiscal policies could spur profits at the nation's largest banks by increasing loan demand as well as credit- and debit-card interchange fees.

A full transcript follows the video.

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Gaby Lapera: Janet Yellen has emphasized that she thinks they are going to raise interest rates at the next meeting.

John Maxfield: Right. You could tie these two things together. I think it's important to reiterate once again what Gaby is saying -- this is all theoretical. Nobody really has a good grasp of what their precise positions are. Even if we had a better sense of what their precise positions are, it remains to be seen if something like a $1 trillion stimulus package is going to make its way through a Republican-controlled Congress, given their historical aversion to big government and debt. The other piece is, it will depend on what that infrastructure spending will look like. The best way to do it, the most effective way to do it, is to do something like FDR did during the Great Depression -- just go out and build dams and bridges and roads. President Eisenhower did the same thing when the government financed the construction of the interstate highway system. But the conversation in the Trump administration -- again, this all remains to be seen, what it's going to look like -- is that they're going to do this infrastructure projects through huge tax credits that will be given to private companies that will, in a sense, own those infrastructure projects. So we're talking more like toll roads, as opposed to, say, improving an airport or an interstate that runs through the middle of Wyoming. Just to reiterate, this is all hypothetical. But this is the reason that bank stocks have gone up -- in anticipation of these.

Sorry, I'm kind of going on here, Gaby, but just follow me for one more second. If these things do work, and if the economy is jilted out of its current malaise, what that will do, theoretically speaking, is to spur higher inflation. The most recent reading on inflation was 1.6%, that was in October. Well, the Federal Reserve is looking for a 2% inflation rate. Once we get near or to that point, or the economy is headed on a fast enough trajectory to that point, the Federal Reserve will then feel comfortable raising interest rates. We've talked about this ad nauseam on this show, because it's such an important thing for banks -- once interest rates go up, banks are going to make a lot more money, because again, they sell loans, and higher interest rates correlate into higher prices for loans.

Lapera: And I just want to put out there, they're going to make a lot more money. Bank of America (BAC -0.48%) said that if rates go up by 100 basis points, they would have an extra $5.3 billion, which is basically an extra quarter worth of revenue for them, which is crazy. Wells Fargo (WFC -0.78%) has said $2.8 billion, and Citigroup (C -0.53%) has said $2 billion for them. That's a lot of money. That's not an insubstantial sum.

Maxfield: It's a very material amount. And it's worth touching on why that's the case. If you have a bank like Bank of America and JPMorgan Chase (NYSE: JPM), they have hundreds of billions of dollars' worth of deposits that they use to finance the loans that they make. But a lot of those deposits, they don't have to pay any interest on them, because they're just in checking accounts. So, if interest rates go up, they will just earn more money on those loans, but they won't have to pay any more for their liabilities. So it's just a great thing for banks, when rates head higher.

Gaby Lapera has no position in any stocks mentioned. John Maxfield owns shares of Bank of America and Wells Fargo. The Motley Fool owns shares of Wells Fargo. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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