How Are Interest Rates Set?

Interest rates are one of the most important prices in the economy, but how are they determined and what is the mechanism by which they change? In this video we touch on the operational dynamics behind interest rate changes and how they filter through the economy.

#interestrates #banking #understandingmoney
00:00 Introduction
00:21 How the Fed sets rates
00:31 The natural rate of interest is 0%
01:05 How the Fed impacts different rates
01:43 The Fed is the reserve monopolist
02:00 Why govt assets are the benchmark assets

[disciplinefunds]

Thanks for watching. If you have comments or questions please let me know. And if you have suggestions for future videos please leave it below.

If you're still learning about reserves and outside money check out these videos:

Understanding outside money:


Understanding banking and inside money:

[gugion]

I did NOT think someone could explain interest rates in 3 minutes, but you did a fine job. Well done!

[jingloh]

The dog walker analogy was really clever, I’ll always remember this.

[paolopg]

Great vid as always, I have two quick qs:

1. The FED controls the short end of the curve (the handle on the leash); I assume they move interest rates up and down to meet their dual mandate on price stability and employment. What makes the long end move? In other words, what does it mean when long-term rates go higher or lower, what is the market telling us?

2. I've heard many big-time investors say "The FED has kept interest rates artificially low for too long". Why do they say this? The long-end is actually lower than the short-end (the curve is inverted), if interest rates were artificially low, then the curve would be upward sloping and long duration bonds would yield very high rates bc the bond market would be saying "the fed is setting short-term rates too low, we think rates should be way higher". On top of that, you said in another video that the FED cuts rates to curtail recessions. In that sense, wouldn't it be better for them if they could somehow keep rates artificially high instead of low bc then they would have more room to cut when they need to?

thanks

[h]

What is the dynamic between the Interest on Excess Reserves (IORB) rate and the Fed Funds rate? From my understanding, the Fed's asset purchase policies increase/decrease total reserves and thus influence the market-based fed funds rate to the "target" area announced by the Fed. Are these two different rates typically increased/decreased at the same time (IORB I guess directly by the Fed and Fed Funds indirectly by the Fed's asset purchase policies)? I was under the impression Fed Funds has become relatively more important for the Fed over the past couple of years/decades?

Great video btw!

[dsimonc]

Do you think that the policy implemented by some European central banks to impose a negative interest rate on bank reserves makes some sense?

[robertburke]

I thought the central bank was independent from the government?

[anrm]

Cullen I had a super dumb question & google is not helping. How is coupon on US Treasuries set by the Treasury. Like I know they issue 10 year notes with $1000 face value & let the market bid for them. Say the bid is 1040 which is accepted. How is Yield & Coupon determined from this? Like the mechanics.

[theaccountant]

The stupid video that goes along with what you are saying is distracting and has the effect of confusing the listener and watcher. What a terrible video.