Moody's has downgraded its outlook for German banks to "negative" from "stable" as profitability and overall creditworthiness weaken in a low interest rate environment.

In a report published Thursday, the ratings giant said the already weak profitability of German banks will decline further over the next 12 to 18 months as net interest income falls.

"Traditional commercial banks and in particular deposit-funded institutions will struggle to out-earn their costs in the continuing low interest rate environment, even though loan-loss provisions are unsustainably low," said Bernhard Held, Moody's vice-president and senior credit officer.

The bleak prognosis comes just a day after the European Central Bank (ECB) warned that falling bank profitability posed one of the biggest threats to economic growth in the euro zone.

The German Bundesbank signaled similar concerns Thursday. "We see that credit risk is underestimated, so given the 10 good years we had in the German economy, if there's backward looking expectations, you may underestimate the risk going forward, so that is one of the vulnerabilities," Claudia Buch, vice-president of the Bundesbank told CNBC Thursday.

Moody's highlighted that smaller deposit-funded banks in Germany will take the hardest hit, with maturing loans and securities repricing at lower rates, while interest rates paid on retail deposits are "in practice at or close to 0%."