Fifth Third's ( FITB) second-quarter profits dropped 8%, as the Midwestern regional lender wrestled with a tricky interest rate environment.

In the second quarter, the Cincinnati-based bank earned $382 million, or 69 cents a share, compared with $417 million, or 75 cents a share, in the same quarter last year. Revenue fell by 2% from a year ago to $1.37 billion.

Last month Fifth Third warned Wall Street that its earnings would decline because of the impact of the narrowing spread between short- and long-term interest rates, which reduced the profitability of its lending and deposit operation. The narrowing of interest rate spreads has compressed the bank's net interest margin, or the money derived from making loans and paying interest to depositors.

Regional lenders such as Fifth Third have been hit particularly hard the past few quarters by the so-called flattening yield curve.

Still, Fifth Third managed to beat the reduced expectations of Wall Street analysts by 3 cents a share. Analysts, as surveyed by Thomson Financial, were expecting the company to earn 66 cents a share. The bank's revenue matched analyst expectations.

Shares of Fifth Third, which closed Wednesday at $37.69, were down 99 cents, or 2.6% in premarket trading.

"Our primary challenge, and focus for further improvement, lies in continuing to stabilize and improve the net interest margin," the company said. "With interest rate tightening appearing to be nearing an end and deposit trends showing positive momentum, significant potential exists to improve the net interest margin and drive positive operating leverage over the years to come."

Net interest income at the company decreased 5% in the quarter, due to the net interest margins being pressured by "the prolonged and significant flattening of the yield curve," the company said. Net interest income was $716 million, compared to $718 million last quarter and $758 million in the second quarter last year.

Net charge-offs were $67 million in the second quarter, compared to $55 million in the same quarter last year and $73 million in the first quarter of 2006. The provision for loan and lease losses totaled $71 million in the second quarter compared to $60 million in the same quarter last year and $78 million in the first quarter of 2006.