Glossary: The Federal Reserve: Interest rates

Monetary policy is set by governments to control the level of activity in the economy through the money supply. Interest rates help to determine the amount of money in the market, and therefore the growth of money supply. The Fed has two key rates: Fed funds and the discount rate.

The Fed funds rate is considered a key rate for implementing monetary policy and sets the tone for money market rates. The Fed funds rate rises and falls depending on how much the Fed lends to or borrows from the market.

The Fed now openly announces policy changes; it was known years ago for its reluctance to do so.

The discount rate is the rate of interest charged by the Fed on loans to banks. This rate usually sets the floor for (and so is below) the Fed funds rate. A low discount rate will make it more likely that institutions will "come to the window" (request funds from the Fed).

The discount rate is best regarded as a pointer to general policy trends, as opposed to the Fed funds rate, which acts as a fine-tuning instrument.