FEDERAL FUNDS RATE

What is Effective Federal Funds Rate?

An interest rate exclusively operated by commercial banks (e.g. Chase; Bank of America; etc.), the Federal Funds Rate is a system of borrowing and lending money to each other. Contrary to the Discount Rate where they receive loans It is not controlled by the country's central bank (The U.S. Federal Reserve), however they can be manipulated by influencing the amount of reserves banks borrow through changes in discount rate.

According to FRED's database, "this rate influences the effective federal funds rate through open market operations or by [the] buying and selling of government bonds". If the Federal Reserve buys bonds, also known as T-bills, they could decrease interest rate. In order to increase the rate of interest, the FED could then in turn sell T-bills.

What is occurring on the graph?`

Focusing on the periods of recession, we can see that the Effective Federal Funds Rate sharply declines. In order to GET OUT of a recession, the FED could use a method known as Expansionary Monetary Policy where they buy T-bills, lower the discount rate and lower Reserve Ratio Requirements. The Federal Funds Rate never goes below zero because it is known as being "zero-bound". Once at this level, the Federal Reserve is trapped from doing anything else to help bring the economy back up and can no longer decrease discount rate.