Effects of Raising Fed's Fund Rate

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boogiehead
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Effects of Raising Fed's Fund Rate

Post by boogiehead »

Can someone explain to me why raising the fed's fund rate has such a big effect on borrowing cost right away for both the government and corporations? I'm assuming when the rates were near zero, many corporations refinanced their debt for as long as possible at a fixed rate similar to someone locking in a 30 year mortgage at a fixed rate or is that not possible for corporations and government?
Call_Me_Op
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Re: Effects of Raising Fed's Fund Rate

Post by Call_Me_Op »

boogiehead wrote: Fri May 13, 2022 9:19 pm Can someone explain to me why raising the fed's fund rate has such a big effect on borrowing cost right away for both the government and corporations? I'm assuming when the rates were near zero, many corporations refinanced their debt for as long as possible at a fixed rate similar to someone locking in a 30 year mortgage at a fixed rate or is that not possible for corporations and government?
I am not so sure it's the raising of the Fed funds rate per say that has this effect. It's more what caused the Fed to raise rates, which is rising inflation.
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein
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bobcat2
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Re: Effects of Raising Fed's Fund Rate

Post by bobcat2 »

The Fed raising the target on the overnight federal funds rate between Fed member banks has little direct effect. The main channel of causation is it causes mortgage interest rates to rise and rising mortgage interest rates have a big effect on slowing the US economy.

BobK
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Re: Effects of Raising Fed's Fund Rate

Post by Call_Me_Op »

bobcat2 wrote: Sat May 14, 2022 9:04 pm The Fed raising the target on the overnight federal funds rate between Fed member banks has little direct effect. The main channel of causation is it causes mortgage interest rates to rise and rising mortgage interest rates have a big effect on slowing the US economy.

BobK
Why does it cause mortgage rates to rise when the banks have not raised interest rates on their savings accounts and CDs? I don't see the link in this current situation.
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein
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bobcat2
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Re: Effects of Raising Fed's Fund Rate

Post by bobcat2 »

Call_Me_Op wrote: Sun May 15, 2022 5:24 amWhy does it cause mortgage rates to rise when the banks have not raised interest rates on their savings accounts and CDs? I don't see the link in this current situation.
Raising the federal funds rate is a cost to the bank. Rising mortgage rates offsets the cost of the federal funds rate rise. Raising the interest rates on savings accounts and CDs are additional costs to the bank.

See following article written March 16, 2022.
Link - https://www.washingtonpost.com/busines ... t-economy/


Also see following written on April 19, 2022.
... monetary policy mainly affects the demand for long-lived assets. A business considering whether to invest in software that will be superseded in two years, or even a machine that will wear out or become obsolete in three or four years, doesn’t care much about what interest rate it has to pay. But interest costs are crucial when you’re deciding whether to buy something that will last for decades, like a house. In fact, the most important interest rates for the economy are, you guessed it, home mortgage rates.

And here’s the thing: Although the Fed doesn’t directly determine mortgage rates, banks deciding how much to charge for loans pay a lot of attention to what they think the Fed will do in the future. If they expect short-term rates to go up, they’ll start charging more for home loans right away because they don’t want to tie up their money, since they’ll be able to get more later.

Sure enough, with everyone expecting the Fed to keep raising short-term interest rates several times over the next year, mortgage rates — and long-term rates for business borrowers — have already shot up more or less to prepandemic levels, even though the Fed has just begun to hike:
Link - https://www.nytimes.com/2022/04/19/opin ... -loan.html

BobK
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JoMoney
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Re: Effects of Raising Fed's Fund Rate

Post by JoMoney »

FWIW, in the past my observation has been that Money Market mutual funds interest rates rose faster than bank accounts. Banks seemed to be much slower to adjust the interest rates they paid out on their accounts.
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham
LittleMaggieMae
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Re: Effects of Raising Fed's Fund Rate

Post by LittleMaggieMae »

UPDATED: BobCat's post explained the jump in Interest rates....

But the Fed raise the rate 1.50% 1.00% so far (I think). But mortgage rates seemed to have jumped up more than that...
Without the Fed changing the rates mortgage rates fell below 3%... but now they are now 5% or higher for a 30 year conventional loan.
Mortgage rates have jumped more than the rate increases....

Am I mistaken that Fed didn't change the rate during 2020 and 2021?
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Re: Effects of Raising Fed's Fund Rate

Post by Call_Me_Op »

bobcat2 wrote: Sun May 15, 2022 9:47 am
Call_Me_Op wrote: Sun May 15, 2022 5:24 amWhy does it cause mortgage rates to rise when the banks have not raised interest rates on their savings accounts and CDs? I don't see the link in this current situation.
Raising the federal funds rate is a cost to the bank. Rising mortgage rates offsets the cost of the federal funds rate rise. Raising the interest rates on savings accounts and CDs are additional costs to the bank.

See following article written March 16, 2022.
Link - https://www.washingtonpost.com/busines ... t-economy/


Also see following written on April 19, 2022.
... monetary policy mainly affects the demand for long-lived assets. A business considering whether to invest in software that will be superseded in two years, or even a machine that will wear out or become obsolete in three or four years, doesn’t care much about what interest rate it has to pay. But interest costs are crucial when you’re deciding whether to buy something that will last for decades, like a house. In fact, the most important interest rates for the economy are, you guessed it, home mortgage rates.

And here’s the thing: Although the Fed doesn’t directly determine mortgage rates, banks deciding how much to charge for loans pay a lot of attention to what they think the Fed will do in the future. If they expect short-term rates to go up, they’ll start charging more for home loans right away because they don’t want to tie up their money, since they’ll be able to get more later.

Sure enough, with everyone expecting the Fed to keep raising short-term interest rates several times over the next year, mortgage rates — and long-term rates for business borrowers — have already shot up more or less to prepandemic levels, even though the Fed has just begun to hike:
Link - https://www.nytimes.com/2022/04/19/opin ... -loan.html

BobK
The article to which you link seems to support my assertion that it is the expectation of higher (long-term) rates that drive the increased mortgage rates, not a direct cost to the bank associated with increased federal funds rate.
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein
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