Policy rate
benchmark interest rate · benchmark rate
A policy rate is the interest rate a central bank sets to steer borrowing costs; it is the starting point for bank lending, deposit and short-term bond rates.
In plain terms
The policy rate is the base price of money. When a central bank raises it, banks pay more to fund themselves and pass that cost on through loan and deposit rates. When it cuts, borrowing gets cheaper.
In the US, the Fed's FOMC sets a target range for the federal funds rate. The Bank of Korea, the ECB and the Bank of Japan each set their own policy rates at scheduled meetings.
Why it matters
Central banks raise rates to cool spending when inflation runs too hot and cut them to support activity when the economy weakens. A rate decision is therefore read as the central bank's verdict on inflation and growth. Markets often react more to hints about the next decision than to the decision itself.
How it connects to markets
- A hike (or rising odds of one): short-term Treasury yields up, the currency tends to strengthen, pressure on rate-sensitive assets such as growth stocks and real estate
- A cut (or rising odds of one): lower borrowing costs, usually supportive for stocks and crypto, the currency tends to weaken
- Rate gaps between countries: when US rates sit well above another country's, that currency tends to face pressure against the dollar