Interest Rate Targeting

Interest rate targeting is the job of the Fed, more or less...or at least one key element of it. Interest rate targeting is the interest rate set by the Federal Reserve (or central banks in other countries) that banks use to borrow money from the Fed and each other overnight.

Banks borrow from each other overnight to make sure they’re meeting federal reserve requirements—the proportion of cash they must legally keep on hand compared to the amount of money they’re loaning out.

The interest rate affects the cost of doing business for the banks, which ripples downward from the banks to its customers (like you). In general, if the economy is feeling the blues, you can expect to see the Fed try to counteract it by lowering interest rates to stimulate more borrowing. If the economy is on happy hour, the Fed may raise interest rates to cool the economy’s jets.