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  Tuesday November 21, 2017

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MONEY SUPPLY AND ITS EFFECTS ON INTEREST RATES
Learn even more about this topic with the Encyclopedia of Personal Finance™

Where does money come from? Who supplies it? The answers to those questions help to explain how interest rates are determined. The Treasury prints the money. However, the Federal Reserve is in charge of regulating the amount of money circulating in our economy. If the Federal Reserve believes there is too much money in circulation, it will take some out.

The Fed's control of the money supply is called monetary policy.

Essentially, interest rates are determined by the supply and demand of money. Monetary policy controls the supply of money in our economy. If there is an oversupply of money in the economy, money becomes relatively easy to come by, and interest rates tend to fall as a result. If money is scarce, interest rates will rise due to the shortage of available funds.

When people save their money, it increases the amount of capital available to lend.

The percentage of income that people save is called the savings rate.

The higher the savings rate, the more money that is available for loans. An increase in the supply of capital will lead to lower interest rates, if all other factors remain the same. However, if interest rates fall too low, investors lose incentive to save. If this occurs, interest rates will start to increase again to stimulate saving.

Both monetary policy and the savings rate determine the supply of money available for borrowing. You can think of interest rates as the price of money. When there is an oversupply of money, the price (interest rates) goes down. Let's now move on to the other half of this relationship -- the demand for money.




LEARN EVEN MORE WITH THE ENCYCLOPEDIA OF PERSONAL FINANCE. CLICK HERE!

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