Follow-the-money Question

When the Fed raises the interest rate, real money with real puchasing power is extracted from the pockets of those who hold variable rate loans. I would suppose billions of dollars are taken from those pockets with each 1/4% rate increase.

I know the funds are then passed between several entities and the details of the process are somewhat confusing. But this is my question: Who ultimately comes into possession of this money, and what do they spend its purchasing power on?

Mortgage rates aren't usually tied to the fed funds rate. They are indexed against other benchmarks which are set by market forces. As for the profits that financial companies can get with a steeper yield curve, they do what other companies do with increased profits. Some may be paid out in dividends, some used to grow the company, increase market share, acquire other companies etc.

Mortgage rates aren't usually tied to the fed funds rate. They are indexed against other benchmarks which are set by market forces. As for the profits that financial companies can get with a steeper yield curve, they do what other companies do with increased profits. Some may be paid out in dividends, some used to grow the company, increase market share, acquire other companies etc.

Thanks for your reply, but I am not sure I understand it. When the Fed raised the rate 18 times in a row, my ARM rose right along with it. The reason the Fed gives for raising rates is to prevent inflation. The fact that the increase raises revenue is never mentioned in any news reporting on the topic. Nor is it ever mentioned what the revenue is used for. Moreover, it is never questioned.

I have posed this basic question to several people as well as on other forums, and each person gives a different answer. Many have stated that the extra revenue of the rate increase does not go the lender who provided the ARM. Most say that it is passed on to the Fed, but nobody has made it clear what they use it for. I am assuming that the money that is taken by the Fed increase does not just become moot and lose its purchasing power.

The money that you've borrowed in your ARM came from somewhere - deposits is the easiest explanation - and passbook savings accounts carry a varying rate of return. When the Fed increases the prime rate, not only does the rate on your ARM increase, but the rate that the bank pays on deposit accounts and other sources of money also increases.

So - although your cost of your ARM goes up, folks who have deposits get a better return. The idea is that the rate goes up in proportion with inflation, so the eventual beneficiary of an increase is the owner of the economy - stockholders.

When the FED raises interest rates, your bank as a member of the FED pays the higher rate for funds it borrows from the FED. Your bank then charges you more for your adjustable rate loans.

The FED uses this extra income to help pay for it's operations.

Mr. Blankenship,

Your explanation makes sense, and I have heard that answer from others. However, I have also heard the answer given by clydewolf where the Fed is the beneficiary and they use the money to pay for the cost of their operation. I have also been told that the money goes to the general fund and is used to fight wars and build roads just like a tax increase. However, if either of these latter two explanations is true, it would seem like a Fed rate increase would be self serving, and that motive would certainly cloud their objectivity in determining whether an increase was needed to control inflation.

The FED changes the Prime Lending rate after the FED (Federal Reserve Board - Ben Bernake and the Fed governors) meets several times a years in regards to the economic outlook. Remember, the prime lending rate affects banking, and therefore the entire economy (the value of the dollar (which affects imports/exports), how many loans are taken out, how much money flows into/out of banks, etc.). Those events also have shockwave events as well (stock market fluctuations, long-term changes in corporate earnings, individual savings).

How the FED changes (or does not change) rates, affects everyone in regards to "who comes into possesion of this money," as you put it. Like Blank and clyde said, the more interest you earn in your savings or the less you pay in lending rates affect you as an individual, depending on whether or not you take advantage of it, or not.

Also, the FED is not the "beneficiary" of changes in the Prime Rate, we all are to a degree.

The Federal government (a different entity, which the Federal Reserve Board is a small part of, as is the IRS, etc.) funds their departments and employees(which includes funding wars, as you mentioned) with income taxes, loans to other countries and other means.

Increases in interest rates slow the economy over time which lowers demand for credit. So there isn't necessarily a directly proportional increase in total dollar revenue to the Fed as rates go up, because demand for higher rate loans goes down.

no one is lending anymore, what is the difference
__________________________________________
Miami Beach Condos (http://www.miamibeachcondosandhomes.com)
Miami Beach luxury homes (http://www.thejills.com)

Aren't we talking about the rate at which banks lend other banks money? YOur ARM is more likelhy tied to the 10 yr treasury or to LIBOR or something. The fact that your ARM goes up (or down as mine did a couple of years ago) may or may not be directly tied to what the FED does with it's rate.

I've been a member of Easy Wealth Stream (http://easywealthstream.com/) for a little over a year and everyone make huge, long term profits online.. for FREE! It may not sound like a lot but I didn't have to do a lot for it either. Might be worth your while checking it out.