Now here are two banking terms that I thought were the same. At least in my head. The first term is “federal funds rate.” The second term is “discount rate.”
- The federal funds rate is defined according to the Federal Reserve Bank of San Francisco, as “…the interest these institutions* charge one another for overnight loans of reserves, balances that are sometimes needed to meet minimum requirements.”
*All depository institutions, including banks, credit unions, and thrifts
2. The discount rate is defined as “…the interest rate a Reserve Bank charges eligible financial institutions to borrow funds on a short-term basis, transactions known as borrowing at the “discount window.”
So, the “fed funds rate” is what banking institutions* charge each other for borrowing from one another,
the “discount rate” is an interest rate charged by the Federal Reserve Bank to a banking institution* for borrowing money from the Fed.
The federal funds rate and the discount rate are considered part of the Federal Reserve Bank’s monetary policy. The Federal Reserve Bank of San Francisco has a short explanation of the above two (2) rates plus “what is Fed monetary policy” at their website: Federal Reserve Bank of San Francisco
And, just to bring this posting into focus, the federal funds rate is what has been dropped to Zero percent and being held at Zero percent for the past 9 or so years. This is the interest rate that is “fussed” over before every FOMC (Federal Open Markets Committee) meeting. This is the interest rate that indirectly affects all other interest rates, i.e. interest paid on your savings account.
And since “a picture is worth a thousand words,” here’s a chart from the Federal Reserve Bank of St. Louis that depicts the fed funds rate over many decades. You can move a slider bar along the “X” axis of the chart from the year 1950 to the year 2010.