Federal Reserve Discount Rate

The Federal Reserve discount rate is the rate that the Fed charges banks when they need financial resources to continue operating. When banks need a short-term loan they go to the Federal Discount Window to do so. There are four discount programs called primary credit, secondary credit, seasonal credit, and emergency credit. Different rates are usually charged in accordance with the type of program extended to financial institutions. The Federal Reserve Bank is the bank that serves the U.S. government. "For the LORD thy God blesses thee, as He promised thee: and thou shall lend unto many nations, but thou shall not borrow; and thou shall reign over many nations, but they shall not reign over thee" (Deuteronomy 15:6). The Federal Reserve discount rate is used when an institution comes to the discount window for secured short-term loans. The rate adjusts periodically to reflect the changes that happen in market conditions and is usually higher than the funds rate to discourage institutions from borrowing excessively.

The Fed System was created to ensure that the banking system in the United States remains strong and stable. The Fed regulates banks to make sure that they are in compliance with banking guidelines set by the Fed. The Federal Reserve discount rate is there for institutions that fall below the required reserves. The Fed makes sure that the banks are in compliance with operating procedures and sometimes even go on-site to do a thorough examination. Rules are put in place to protect customers and the financial system as a whole. Examinations of member banks are also done off-site as well. Some sources claim that member banks who are not upholding operating policies will have to make adjustments to remain a member of the Fed. Each member bank receives dividends that are paid annually to compensate them for reserves that do not normally earn interest.

There are 12 Fed banks and 25 branches in operation. In order to be a member of the Fed bank the member banks must purchase so much stock from the Reserve System. The stock can never be sold or traded. This provides the Fed with security for loans granted to member banks. Every bank has a Board of Directors consisting of nine members who makes the big decisions and oversees all operations. The member banks provide the main bank with economic information and help to maintain monetary policies and make decisions that need to be made to uphold those policies. The Federal Reserve discount rate must be approved by the Board of Governors.

Banks often borrow from the discount window because they have loaned out too much money in a day's period and do not have enough left in their reserve. The Federal Reserve discount rate is the rate of interest that a bank is charged when they borrow the money to replenish their reserve. The institutions that are members of the Fed must keep so much money available at all times in order to remain compliant with guidelines set up by the Fed. Short-term loans may be necessary from time to time in order to keep the set amount of money replenished. However, these short-term loans usually cost the banks a higher interest rate than the current funds rate. This is set up this way to discourage the borrowing of money unnecessarily.

Primary credit is a type of credit that is extended to member banks for up to 90 days. Credit can be extended a few weeks if the institution is financially sound. Primary credit is often extended to institutions without providing reasons. The Federal Reserve discount rate is set to help those institutions who can not obtain temporary funds any other way than through the Fed. Some sources say that the Fed looks closely at an institution that makes a habit of borrowing frequently even when the bank can qualify for primary credit. The extensive of credit is dependent upon discount rates that are normally reestablished at least every two weeks. This includes programs for primary, secondary, and seasonal credit.

Secondary credit requires the borrower to provide information about financial condition and the reasons for borrowing funds and then must be approved by the Fed before credit is extended. When a bank does not qualify for primary credit then they are looked at closely to see if they qualify for secondary credit. The Federal Reserve discount rate is higher for secondary credit compared to primary. Credit for any type of program can only be granted to institutions that are members of the Fed and maintain reserves based upon the regulations set forth by the Fed bank. The Fed bank has a unique set up where there is an internal check so that one part of the system can not go awry.

Seasonal credit is set up for institutions that need help in managing seasonal swings in loans and deposits. The Federal Reserve discount rate for seasonal credit is a floating rate that is based upon market conditions. An institution asking for seasonal credit must become eligible by establishing a seasonal standing with the Fed bank. Institutions applying are subject to careful review before being granted seasonal standing. Besides seasonal credit an institution can apply for emergency credit if there are circumstances warranting such. There is normally a serious emergency and the bank desiring credit must not be able to acquire credit from other sources. In order to get an approval for emergency credit at least five members of the Board of Governors must vote affirmative.

Federal Reserve Interest Rates

Lowering and raising federal reserve interest rates can have a far reaching impact on the nations economy. The Federal Reserve Banking System, aka The Fed, is the central bank of the United States and one of the most powerful independent entities in the government. Charged with the responsibility of monitoring and managing the purse strings of America, the Feds raise and lower the federal funds rate, the rate banks charge each other in order to borrow money and maintain sufficient cash reservoirs at the Fed. U.S. banks are required by law to keep sufficient funds in store at the nations central bank to prevent running out of money and depleting the countrys financial resources. In 1907, America endured a severe financial crisis which caused depositors to panic and withdraw funds en masse. Banks failed and the national economy almost folded.

The Federal Reserve Act of 1913 addressed the issue of bank runs, or panics, by establishing the Federal Reserve Banking System and mandating that banking institutions keep excess currency at The Fed. Just sixteen years later, the stock market crash of 1929, labeled, Black Tuesday, put the Act of 1913 to the test. The stock market crash set off a panic as wealthy investors lost fortunes overnight and the country was plunged into the Great Depression. Those who placed confidence in monetary possessions found themselves struggling to survive; but, I Timothy 6:17 admonishes us to, "Charge them that be rich in this world, that they be not high-minded, nor trust in uncertain riches, but in the living God, who giveth us richly all things to enjoy."

The Fed is supervised by Congress and consists of a hierarchy of a central bank, a 7-member Board of Governors, twelve regional federal reserve banks with 25 branches, 900 state member banks, and 5,000 bank holding companies. The central bank processes the nations financial transactions in excess of trillions of dollars, buys and sells government securities, and distributes U.S. currency to financial institutions across America. The central bank also manages federal income tax deposits and payouts held by the U.S. Treasury. Central bank functions also include furnishing the nation with coins and paper currency through the U.S. Treasurys Bureau of the Mint. The 12 regional banks issue non-transferable shares to state member banks, which pay shareholder banks an annual rate of 6 percent. The Fed requires member banks to hold cash on account at the central bank in return for dividends. However, net profits are then deposited back into the U.S. Treasury, totaling over $30 billion dollars annually.

Banks who realize a deficit of cash or accounts must borrow money from the Fed. When the Feds lower the federal reserve discount rate, the percentage levied on loans commercial banks are charged to borrow from the 12 regional banks, financial institutions are more able to lend money to businesses and consumers, invest in more stocks, bonds, and other ventures; and pay account holders higher interest rates for savings. One of the key functions of the central bank is to avoid bank runs and ensure national financial stability by lowering and raising federal reserve interest rates, which enables banks to lend each other money and avoid central bank deficiencies. When the Fed charges member banks less interest on borrowed monies, this lower federal reserve discount rate enables banks to pass along savings to private and commercial depositors by charging lower prime and subprime interest on consumer and commercial loans.

The United States money market is like a game of dominos; one economic sector directly or indirectly affects another. A lower federal reserve discount rate has a positive impact on banking institutions' ability to lend or borrow money. The recent housing slump and higher interest rates have caused many banks to tighten up on lending policies, lending money only to the most credit worthy consumers. Many homeowners who were able to get home loans with Adjustable Rate Mortgages (ARMs) faced default and foreclosure when these rates skyrocketed. Many would-be homebuyers shied away from taking on high-interest home loans. Consequently, banks and builders were left with an excess inventory of new homes on the market with no buyers. Sales of older homes also plummeted as sellers failed to sell houses whose current values were less than balances owed on high-interest, long-term mortgages.

The Fed is responsible for regulating long-term financing charges, stimulating employment, stabilizing price structures, and ensuring consumer credit protection. To relieve U.S. banks from the heavy burden of delinquent and foreclosed home mortgages, the Fed recently loaned member banks 2 billion dollars and have lowered federal reserve interest rates several times. Theoretically the $2-billion loan was to put more money in banks' coffers; while lowering interest rates allows more consumers to obtain financing at a lesser cost. Lower interest rates encourage consumers and businesses to loosen the tight grip on cash and begin to spend more money, especially on big ticket items. When consumers can get auto loans, credit cards, and home mortgages at lower rates, they tend to borrow and spend more money. Increased consumer spending releases more cash into the market, stimulating the economy.

Liquid assets flowing from banks and lending institutions to consumers causes manufacturers of goods and providers of services to profit. In turn, as commercial enterprises realize higher net profits, more jobs are created and unemployment plummets. Employed people with access to stable income spend more money, establish more credit, and are able to better qualify for loan financing. Banks loan money at low interest rates, realizing profits through increased lending to reliable borrowers. Greater profitability for banks, coupled with a lower a federal reserve discount rate, helps relieve financial institutions from inter-bank borrowing to make up for deficiencies at the Fed. As the financial manager of the United States of America, the Federal Reserve Banking System has the grave responsibility of regulating federal reserve interest rates for the welfare of the American people.

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