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Originally Posted by cyberwave
I am just trying to understand interest rates here and there significance
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As already told, interest rates are the cost of money, or in other words, the cost to borrow money. Rates for a specific currency differ actually due to several factors, but the central banks adopt what is called "The Benchmark interest rate". The benchmark interest rate is the lowest possible rate anyone is allowed to lend the currency at.
For example, the benchmark interest rate for the Euro currency is currently at 2.0%, thus it means that banks can lend Euro at 2.0% or above. Usually, only the big banks borrowing huge amounts of money borrow Euros at 2.0%, and they do it directly from the ECB (European Central Bank). The big banks then lend Euros to other Regional & Small Banks at a higher rate, say 2.15%, and those banks lend retail clients with a higher rate, say 2.40-2.50%, and that's how banks make profits.
The benchmark interest rate plays a great role in the bond market and bond prices, but that's a whole different and big story.
Now let's come to the opposite situation in which you are going to lend the bank your money/deposit it in a saving account. Say you want to deposit your Euros in the Bank and the benchmark interest rate for the Euro is 2.0%, you will find that the bank will actually pay you around 1.5-1.8% interest for your money. Big Banks will offer lower rates below the benchmark, and small banks will offer higher rates also below the benchmark.
So as a conclusion, the benchmark is just only a theoritical value or a semi-theoritical one which can only be seen in Big Banks and Central Banks deals, but it defines almost all the rates relation between everyone dealing in borrowing or lending money.
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Originally Posted by cyberwave
Also why when a gov. increase interest rates,..currency runs up against another currency with unincreased interest rates ?
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Logic, when the Central Bank increases the benchmark rates for it's currency, banks are going to give you more money on the same amount than used to do before, so if the ECB raises rates from 2.0% to 2.5%, banks will give you 2.2-2.4% instead of the 1.5-1.8%. You want the currency and many other want it, specially if the other currency in the pair is not increasing the rates, so it goes up.
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Originally Posted by cyberwave
Also can a gov increase interest rates with no real support to it ? i.e can a gov create inflation to its currency on purpose ? if they can't how can the USA increase interest rates during all the crises that occured ? does that make sense ?
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For your information, Central Banks use interest rates as a re-active decision and not as an active one. In other words, Central Banks increase rates only when they see that the economic indicators are pointing to inflation, they decrease rates when they see the economic indicators pointing to deflation or slowing growth, and they keep rates when the economic indicators show little or no change.
The re-act and not act. If they act and change rates, this will end up messing up the economy. For example, if the ECB raises rates on the Euro without valid reasons, borrowing money will cost more, and this will really hurt the economy as companies won't be able to bear high borrowing costs and will probably shut down operations and keep things under tight control, because they see that the economy can't absorb an increase in production for example. So the ECB actually messed things up instead of fixing them.
I can't recall the US increasing rates in disasters. For example, just after the 9/11 attacks, benchmark rates were reduced by 0.5%.
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Originally Posted by cyberwave
Also the big question about JPY.. why does it not have any interest rates ?
thanks for the clarification on these ellusive questions  |
The Japanese economy has been stuck into a recession for a long time. Rates are near zero because the government and the Central Bank want the country to leave the recession and deflation period and go into inflation once again. Inflation means growth and growth means higher GDPs and means increasing interest rates and means more foreign money to be injected in the economy and means more prosperity to the country. Yet they have failed to pass the recession period till now. This is due to they originally manipulated the last inflation period and made it longer than it should have been in which the Japanese economy got a lot fatter than it should have been. They just made a mistake and they are still paying the price of it till now. When you have a 12-15 years of continous inflation and prosperity, don't imagine that you are not going to have a similar 15 years of deflation and recession.
Thanks,
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