Monetary Policy Tools

The interest rate the Federal Reserve charges commercial banks and other depository institutions for short-term loans borrowed directly from the Federal Reserve's discount window. One of the three primary tools of monetary policy (along with open market operations and reserve requirements), though used less frequently than open market operations for day-to-day policy implementation. Changes to the discount rate signal the Fed's monetary policy stance and can influence overall credit conditions.

Example: When the Federal Reserve wants to signal tighter monetary policy, it may raise the discount rate. Th...

The target interest rate range set by the Federal Open Market Committee (FOMC) for overnight lending between banks to meet reserve requirements. The actual rate is market-determined through interbank transactions. Serves as the primary tool of U.S. monetary policy and influences all other interest rates in the economy. The FOMC meets eight times per year to set the target range, typically adjusted in increments of 25 basis points (0.25%).

Example: In March 2022, the FOMC raised the federal funds rate from 0.25% to 0.50% to combat rising inflation...

A financial statement showing the Federal Reserve's assets (primarily Treasury securities and mortgage-backed securities purchased through open market operations) and liabilities (primarily currency in circulation and bank reserves). The size of the balance sheet expands during quantitative easing (QE) when the Fed purchases securities to inject money into the economy, and contracts during quantitative tightening (QT) when the Fed allows securities to mature without replacement. The balance sheet grew from approximately $900 billion in 2007 to over $8 trillion by 2022 following multiple rounds of QE.

Example: During the 2008 financial crisis, the Fed dramatically expanded its balance sheet from $900 billion ...

The buying and selling of U.S. Treasury securities by the Federal Reserve (through the Federal Open Market Committee) to control money supply and influence interest rates. This is the primary and most frequently used monetary policy tool. The FOMC meets eight times per year to set policy direction.

Example: When the FOMC observes rising inflation, it may sell Treasury securities to banks and dealers. This ...

The interest rate commercial banks charge their most creditworthy corporate customers, serving as a benchmark for consumer and business loan rates including credit cards, mortgages, home equity lines of credit, and auto loans. Typically set approximately 3% above the federal funds rate. Individual banks set their own prime rates, though most major banks use the same rate published as the Wall Street Journal Prime Rate.

Example: When the Federal Reserve raises the federal funds rate by 0.25%, most banks raise their prime rate b...

An unconventional monetary policy tool where the Federal Reserve purchases large quantities of longer-term securities (Treasury bonds and mortgage-backed securities) to lower long-term interest rates and inject liquidity when short-term rates are already near zero. QE expands the Fed's balance sheet and aims to stimulate economic activity by reducing borrowing costs and encouraging lending and investment.

Example: During the 2008 financial crisis, the Fed launched QE1, purchasing $1.75 trillion in Treasury bonds ...

The percentage of customer deposits that commercial banks must hold in reserve (as vault cash or deposits at Federal Reserve Banks), rather than lending out. Set by the Federal Reserve Board of Governors, reserve requirements were historically used to control money supply and ensure banking system stability. Since March 26, 2020, the Fed has set reserve requirements to 0%, effectively eliminating this as an active monetary policy tool. The Fed now relies primarily on open market operations, the discount rate, and interest on reserve balances (IORB) to implement monetary policy.

Example: Historically, if a bank had $100 million in deposits and the reserve requirement was 10%, it had to ...