Financial Institutions and Markets

Question

By reviewing the Federal Reserve website https://www.federalreserve.gov/datadownload/Choose.aspx?rel=H15
and/or other relevant resources, refer to the latest 2 changes to the discount rate and  federal funds rate target made by the U.S. Federal Reserve and discuss the following:
How did the stock market indices react to these changes?
How did long-term U.S. Treasury bond yields react to these changes? 
What happens to borrowers, savers, investors, and bank profits inside and outside the United States as these rates change?

Sample paper

Financial Institutions and Markets

The latest 2 changes to the discount rate made by the U.S. Federal Reserve occurred in March 2017 and February 2017. In March 2017, the discount rates increased from the previous 1.25 percent to 1.50 percent (“Federal Reserve,” 2017). The last change had occurred in December 2016 where the discount rate increased from 1.00 percent to 1.25 percent. The discount rate changes had a significant impact to the stock market indices. One of the key impacts is on the Dow Jones Industrial Average. On 30th December 2016, the Dow Jones Industrial Average stood at 19,123.58 while on 1st December 2017, the industrial average increased to 19,191.93 (“MarketWatch,” 2017). On 28th February 2017, the Dow Jones Industrial Average was at 20,812.24. This figure increased slightly to 21,115.55 following the change in discount rate from 1.25 percent to 1.50 percent. In the following week, the Dow Jones Industrial Average figure maintained an average of 21,000.

The discount rate changes had slight impacts to the stock market volumes. The increase of the discount rate on 1st December 2016 caused a decline in stock market volumes from the previous figure of 108,803,146 to lows of 84,921,758 (“MarketWatch,” 2017). However, in March 2017 the change in discount rate slightly increased the stock market volumes from the previous 339,209,839 to 392,823,218 (“MarketWatch,” 2017). The discount rate changes had a slight impact on the Standard & Poor’s 500 Index value. On both occasions, the discount rate changes brought about a slight change reflecting a decrease or an increase in the Standard & Poor’s Index value. On 30th November 2016, the Standard & Poor Index was 2,198.81. This decreased slightly to 2,191.08 on 1st December. This figure increased throughout up to December 22 when it experienced a slight reduction (“MarketWatch,” 2017). The discount rate changes in March resulted in a slight increase in the Standard & Poor Index from 2,363.64 the previous day to 2,395.96 on 1st March 2017.

The discount rate changes had remarkable impacts on the long-term U.S. Treasury bond yields. The increase in discount rates resulted in an increase in the long-term U.S. Treasury bond yields from 2.37 on 30th November 2016 to 2.45 on first December (“U.S. Department of the Treasury,” 2017). The average U.S. Treasury bond yields remained higher than the average figure for November. This indicates that increase in discount rates by the U.S. Federal Reserve increases the long-term U.S. Treasury bond yield. Similarly, the long-term U.S. Treasury bond yield is higher on average in the month of March 2017 compared to the average recorded in February the same year. The increase in long-term U.S. Treasury bond yield reflects the increase the discount rates by the Federal Reserve.

The increase in discount rate increases the cost of borrowing. Borrowers obtain money from commercial banks at higher interest rates. This may reduce the number of internal and external borrowers. The increase in discount rate may not have a significant impact on savers. This is because commercial banks are not likely to adjust their interest rates on savings with increase discount rates and especially in the short run. To the investors, they may incur increased payments especially those having revolving debt. This includes internal and external investors. The bank profits may reduce due to the high cost of borrowing, hence keeping potential borrowers away.

References

Federal Reserve. (2017). Retrieved from       https://www.federalreserve.gov/monetarypolicy/discountrate.htm

MarketWatch. (2017). Retrieved from http://www.marketwatch.com/investing/index/spx/charts

U.S. Department of the Treasury. (2017). Daily treasury yield curve rates. Retrieved from             https://www.treasury.gov/resource-center/data-chart-center/interest-            rates/Pages/TextView.aspx?data=yieldYear&year=2016

Related:

Report of current GDP, the current Federal deficit, the current Federal debt, and the bottom line of the current (last) budget approved by Congress

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