how the interbank rate works
banks are required by federal regulators to hold enough cash in reserve to accommodate day to day withdrawals from their customers these liquidity needs are generally managed by borrowing to cover any shortfall and lending to earn a modest interest on any excess 1the rate of interest earned on the banks money is based on the current federal funds rate this rate also known as the interbank rate or the overnight rate is actually set by the banks themselves 2 it is not set by the fed per se but is affected by the the one rate the federal reserve actually does set which is the discount rate 3 the fed has a target range it tries to keep the fed funds within but they don t actually set it that is up to the banks involved in that transaction the federal funds rate is a tool that the federal reserve uses to increase or decrease the amount of cash in the system overall a low rate encourages banks to borrow freely while a higher rate discourages such activity 2in the economic crisis of 2008 that kicked off the great recession the board cut the target range of the rate to between 0 and 0 25 and kept it there for seven years to encourage investment and borrowing a series of modest increases pushed the target up to a range of 2 25 to 2 5 in december 2018 then in response to the economic fallout of the 2020 crisis the fed again cut rates to close to 0 4this does not mean that a consumer will be able to directly take advantage of near zero rates the interbank rate is available only to the largest and most creditworthy financial institutions however all interest rates for borrowing or saving money are based on that key federal fund s rate so a rate for a mortgage or a credit card will be based on the federal funds rate plus a premium a consumer will never get the interbank rate on a loan the lowest rate is available only to the largest and most creditworthy financial institutions 5the interbank rate in foreign exchangethe alternate definition of interbank rate is relevant to the interbank market the global market used by financial institutions to buy and sell foreign currencies 5 in this case the interbank rate or interbank exchange rate is the current value of any currency as compared to any other currency the rates fluctuate constantly by fractions when the market is open most of this trading is done by the banks to manage their own exchange rate and interest rate risk though they also trade on behalf of some large institutional clients the interbank rate is what you see when you compare any two currencies in an online currency calculator as with the interbank interest rate consumers are not going to get the interbank foreign exchange rate when they exchange money they will get the interbank rate plus a premium that represents the profit of the company that exchanges the money 5