discount rate

Discount rate

The interest rate that the Federal Reserve charges a bank to borrow funds when a bank is temporarily short of funds. Collateral is necessary to borrow, and such borrowing is quite limited because the Fed views it as a privilege to be used to meet short-term liquidity needs, and not a device to increase earnings. In context of NPV or PV calculations, the discount rate is the annual percentage applied. In the context of project financing, the discount rate is often the all-in interest rate or the interest rate plus margin.

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discount rate

1. The interest rate charged by the Federal Reserve on loans to its member banks. A change in this rate is viewed as a strong indicator of Fed policy with respect to future changes in the money supply and market interest rates. Generally, a rise in the discount rate signals increasing interest rates in the money and capital markets.

2. The rate at which an investment's revenues and costs are discounted in order to calculate its present value.

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Discount Rate

The interest rate at which the Federal Reserve makes short-term loans to member banks. The discount rate is an indicator of the direction in which the Federal Reserve is trying to push the broader economy. In general, a low interest rate indicates that it is trying to promote growth by making liquidity easily available, and a high interest rate shows that the Fed is concerned about inflationary pressures on the economy and trying to reduce the amount of money in the economy. Along with the sale of Treasury securities and the determining of the fed funds rate, setting the discount rate is one of the primary ways the Federal Reserve sets the monetary policy of the United States.

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Discount rate. The discount rate is the interest rate the Federal Reserve charges on loans it makes to banks and other financial institutions.

The discount rate becomes the base interest rate for most consumer borrowing as well. That's because a bank generally uses the discount rate as a benchmark for the interest it charges on the loans it makes.

For example, when the discount rate increases, the interest rate that lenders charge on home mortgages and other loans increases. And when the discount rate is lowered, the cost of consumer borrowing eventually decreases as well.

The term discount rate also applies to discounted instruments like US Treasury bills. In this case, the rate is used to identify the interest you will earn if you purchase at issue, hold the bill to maturity, and receive face value at maturity.

The interest is the difference between what you pay to purchase the bills and the amount you are repaid.

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discount rate

The rate at which the Federal Reserve loans money to lenders to cover short-term cash needs, usually for overnight loans. Increases or decreases in the discount rate almost always signal similar increases or decreases in bank loan rates to customers, even though the two are not directly tied to each other.

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Discount Rate

What Does Discount Rate Mean?

(1) The interest rate that an eligible depository institution is charged to borrow short-term funds directly from a Federal Reserve Bank.

(2) The interest rate used in determining the present value of future cash flows.

Investopedia explains Discount Rate

(1) This type of borrowing from the Fed is fairly limited. Institutions often seek other means of meeting short-term liquidity needs. The Federal funds discount rate is one of two interest rates the Fed sets, the other being the overnight lending rate, or the Fed funds rate.

(2) Let's say you expect $1,000 in one year's time. To determine the present value of this $1,000 (what it is worth to you today), you would need to discount it by a particular rate of interest (often the risk-free rate but not always). Assuming a discount rate of 10%, the $1,000 in a year's time would be the equivalent of $909.09 to you today (1,000/[1.00 + 0.10]).

Related Terms:
• Federal Funds Rate
• Federal Open Market Committee
• Interest Rate
• Monetary Policy
• Prime Rate