Federal Funds Market

Every night, the moon comes out, the sun goes to bed, and banks are making overnight loans to each other.

Banks have to meet certain "reserve requirements," meaning they have to have a certain amount of funds on hand each night. One night, a bank might have more money than they need on hand, so they offload the extra onto another bank in the form of a loan. Another night, that same bank might come up short, so it takes a loan from another bank to meet those reserve requirements. Banks can also borrow directly from the Federal Reserve, but they usually borrow from each other before doing that.

The federal funds market is the total of all of these transactions, or all of the money borrowed by all of the banks. The federal funds market is full of "federal funds," because those loans are subject to interest rate targets set by the Federal Reserve Open Market Committee. When they set the interest rates high, borrowing will go down. When they set the interest rates low, borrowing will go up. Well, that’s the idea anyway.

See: FOMC.