AP MacroeconomicsMoney, Banking & Finance
Maturity Transformation
Maturity transformation is banks borrowing short-term (deposits) and lending long-term (loans), profiting from the rate spread while taking on liquidity and interest-rate risk.
Banks reconcile savers who want instant access with borrowers who want long-term funding, earning the spread between long-term loan rates and short-term deposit rates. This mismatch is the core of banking but creates liquidity risk: if many depositors withdraw at once, the bank cannot quickly recall long-term loans — a setup for a bank run. It also exposes banks to interest-rate risk when short rates rise.