ShmoopTube

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Finance a la shmoop what is the federal funds rate? all right think about it like

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a suggested tip amount at a restaurant or on uber or lyft and you're going to [Man stood outside Pete's Pizza store]

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gauge how your waiter or driver will react to that number

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warmly coldly or well that's basically what the federal funds rates intentions

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are as it relates to heating up or cooling down the economy well the Fed

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heats and cools via the manner in which it rents money to its henchmen, the US

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banking system that is in the most basic vanilla transaction the Fed rents money [Briefcase of cash lands outside Federal State building]

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to banks for 1% a year and those banks then turn around and market that

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money in the form of loans for homes and cars and re rents

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that money with a big fat markup at three four five six seven eight percent

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or more well a fair number of deadbeats exist on the planet they don't pay back [people appear all across a map of earth]

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the money they promised to pay back and while sometimes the bank has to eat the

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dough they loaned or at least incur a lot of lawyer bills chasing down the [Lawyer chasing man in a car]

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deadbeats and in the event of a calamitous economic situation well,

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banks need to be rock-solid so they can't lend out every dollar they have

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that is they have to keep a fair amount of equity on their books so that if bad

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things really do happen then they have what are called reserves well the bank [Bank reserve vault of cash appears]

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also keeps reserves for direct daily deposits so that someday when a bunch of

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people come in for their cash the bank can't turn their pockets inside out and [Person turns pocket inside out]

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say yeah sorry we gave it all to the nice man wanting to buy a sports car

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well that kind of thing leads to panic and disaster and it has sadly in our

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country's history when a third of the banks went bankrupt in the Great

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Depression so what happens when a bank has less money than it legally needs to

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have as a reserve? well it borrows money in a short-term overnight loan from

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either the Federal Reserve Bank or from other banks that keep their own reserves [Money transfers from Federal Reserve to bank]

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at the Federal Reserve sort of like borrowing from Peter to pay Paul keeping

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all that reserve grid number uh steady all right well now

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we all know that borrowing money is not free

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if a bank borrows overnight from other banks it is charged an interest rate at

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the current federal funds rate the Federal Reserve influences that rate

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while banks just need to be careful about paying back those loans because

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stiffing the Fed is significantly more dangerous to your life than

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sniffing your waiter at Applebee's [Object hits man outside Applebee's]

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