How Interest Rates Work
A Simple Explanation
Today we are going to simply explain how interest rates work.
The success of the bank is closely linked with the well-being of the government, which is why the government is in a perfect position to figure out the best interest rates for depositors and borrowers. When it comes to lending, the government offers the lowest interest rates to the most secure borrowers, those who are most likely to repay their loans. For those who may be a bit riskier, the government charges a slightly higher rate to make up for the added risk.
These loan rates then determined how much dough the bank could pay depositors, who got paid on a similarly sliding scale. If you had your money in the bank for a long-ass time, the bank was less likely to run out of cash and so they gave you higher interest payments. But if you couldn't commit to a longer time frame, you got lower rates. Even though the bank set the rates, the whole interest rate system itself went up and down depending on market conditions that the bank couldn't really control.
Sometimes when people work real hard and get a lot of stuff done, they end up with a ton of extra money. Then the bank gets so much money that they're like, "Hey, we can give loans to people for cheaper now!" 'Cause even if some people can't pay it back, it's not as big of a deal when there's so much money around. And since the economy is doing so well 'cause of all the hard work before, it's a great time for people to start new businesses.
With no need to get new savings, and with lower rates for people borrowing money, it'd also mean that people who put their money in the bank would get less money back, and that would make them not want to save money. When people stop saving money (which is bad for the economy), Stuff would happen that'd make people wanna save up again, and that'd make the bank richer.
When the bank didn't have much money, they had to be super careful with giving out loans. If someone didn't pay back their loan, it could be really bad for the bank. To make up for the extra risk, the bank charged people more money if they wanted to borrow money from the bank. But if you wanted to save your money in the bank, they would give you more money back.That way, more people would save their money and the bank wouldn't lose all its money if someone didn't pay back their loan.
Higher interest rates can sometimes discourage borrowing and slow down business growth, but at the same time, they can also encourage savings. This could lead to a buildup of funds over time, which could eventually cause rates to drop again. Also,a lower savings rate could mean that someone prefers to spend money on things they need right now rather than save for the future, which might make them less likely to invest in long-term projects that would provide goods for future use. Overall, it's important to consider all sides of the issue when it comes to interest rates and their impact on the economy.
This is a really interesting cyclical interest rate mechanism that is aimed at maximizing the returns on the bank's deposits. We also take into account the fear of losing capital on risky ventures and individual time preferences for consumption. All of these factors come together to produce a rate of interest that is perfect for stabilizing the market.