Cuyahoga Community College District
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Here’s a short piece on interest rates. I will talk a bit about what are the various rates, what are their relationships to each other,and what part the Federal Reserve Bank plays in all this.
The so called “parent rate”, the rate that effects all other rates in our economy, is the Federal Funds target rate (FFRt). It is set by the Federal Open Market Committee. The FOMC is comprised of the 12 Federal Reserve Bank presidents, and 7 board of governors. This group meets about 8 times a year to manipulate this interest rate. The last reported rate is a range between 0.00 % and 0.25%.
The FFRt influences the prime rate, the discount rate, and the repurchase or “repo” rate.
The prime rate is the rate banks charge their best customers, and it affects a host of interest rates such as business credit lines, auto loan rates, home equity loan rates, and credit card rates.
The discount rate is the rate that a bank is charged to borrow short-term funds directly from a Federal Reserve Bank.
The repo rate, is the Federal Funds Effective rate FFRe. It is the rate commercial banks charge each other for short-term overnight loans, and it affects Treasury bills, notes and bond rates, as well as corporate and municipal bond rates.
The Repo market consists of purchase and sale agreements between security dealers and The Federal Reserve Bank of New York, in which Treasury Bills are bought and sold by the FRB NY. Every day, The FRB NY buys and sells huge amounts of Treasuries, with the aim to get the FFRe in line with the FFRt.
In a recessionary period, like we have now, the FFRe is too high and is above the FFRt. The FRB NY then steps in and buy Treasuries from security dealers. The dealer’s commercial bank accounts are credited, increasing the deposits at the bank, increasing the money supply, and decreasing the FFRe. When the FFRe rate drops, the effect is that it will encourage banks to borrow money and therefore invest more freely.
Hence, the money supply in the U.S. is measured by the FFRe. Treasuries, then, are what backs money, not a physical resource like gold. And who owns the majority of the Treasuries? Mainly foreign governments like China! (Believe it or not).
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