CD Rates Versus Fed Funds Rate Increases

The effect of your CD rates versus Fed Funds rate increases is a positive move while the opposite is bad news. But what really is the fed rate and how does it function? This is relatively simple. Each financial institution is required by law to have a set amount of cash as a reserve and this is held by the Federal Reserve. If a financial institution’s reserve drops below the required level, they must borrow money to make up the short fall. The rate at which they are charged is the overnight short term loans that the Fed raised last week to 0.75%.

With the interest rate below 1%, all interest rates in every type of financial account will be at rock bottom. Once inflation starts to kick in and the Fed raises this overnight rate and the prime rate, this will have a positive effect on the rates of CDs and savings accounts. The reason being it cost the banks more to borrow money. Banks make money by making loans. The more they have to pay for the funds to make these loans, the higher the interest rates of the loans will be. The CD rates and the savings will move up just as soon as the fed raises the prime rate. This is the rate at which banks loan money amongst themselves but not dealing with their reserve money.

At the moment, as it’s been for a few years now, the Fed has had a monetary policy of keeping the interest rates artificially low. This is supposed to spur the banks into making more loans with low interest rates, but they refuse to still. This will keep the economy stagnated until financial institutions finally realize they need the economy running to make a greater profit.

The CD rates versus Fed Funds rate increases will be positive when the financial institutions finally decide to start making loans again. Until then, the economy will be sluggish and the rates will be at rock bottom for investors.

Posted : February 26th, 2010 by Douglas

Tags: bank rates, CD rates, investing, money

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