Interest Rates

Interest rates are foundational to asset prices. Assets cost money and and interest determines how much money costs.

The Treasury yields are the base interest rate because the returns are considered risk free. All riskier assets should be priced to a higher yield.

Treasury Yields are inversely related to asset prices, as they rise, borrow costs rise, resulting in decreased demand for spending and investment.

The Federal Reserve controls the short term interest rate by manipulating the interest it pays on reserves through the Reverse Repo Facility (RRP offering rate) or the interest rate it pays banks holding reserves in the account. These rates influence Federal Funds rate. While the Federal Funds Rate is often viewed as a benchmark, the RRP mrate is available to a large set of market participants and so is probably more influential1.

  • The short-term interest-rate futures market reveals what the market thinks short-term interest rates will be in the future1

Long Term interest rates

Long term interest rates can be thought of expectations on the path of short-term interest rates + a term premium. However, long term interest rates are also subject to supply and demand, however both future supply and future demand are difficult to predict. Future supply because this is a function of political deficit spending and future demand is influenced by foreign buyers monetary and trade policies1.

Negative Interest Rates economicsfinance

Negative interests are like a tax on money that is sitting on the sidelines, but they do not appear to spur economic growth. Negative interest rates hurt the banking sector1.

Interest Rates and Economic Growth economics

While Conventional Monetary Policy might imply that interest rates and economic growth are negatively correlated, evidence suggests they are actually positively correlated. In times of economic growth, demand for money increases, driving up the price people are willing to pay for it. Also, cutting rates has diminishing returns on growth1. :macro-economics:economics: :macro-economics:economics:

Interest Rates and Asset prices economics

Low or negative rates boost asset prices significantly because investors are able to borrow money with short term loans and speculate or invest in assets


References

1.
Wang, J. J. Central Banking 101. (Joseph, 2021).

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