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Central Banks
"The Federal Reserve allows the economy to grow at the
fastest rate possible without creating excessive inflation.
The highest rate at which the economy can grow without excessive
inflation is estimated at 2.8% annually, then the Fed steps
in and tightens the money supply."
- Lorayne Fiorillo, author of
Financial Fitness in 45 Days
There's another kind of banking that doesn't affect your
day-to-day transactions, but does affect how much money you
will make and lose on those transactions.
Central or government banks, such as the Federal Reserve
in the U.S. and the Bank of England in the U.K., are the ones
responsible for setting monetary policy within their respective
countries. And, in fact, their maneuvers may not only affect
your financial situation, they also influence the way other
central banks throughout the world set their monetary policies.
Very simply, when economic growth gains momentum to the point
where inflation becomes a threat, the Federal Reserve often
steps in and tells the central banks to raise their interest
rates. Like a domino effect, this is what usually happens
next:
- Local banks, in turn, raise their interest rates on loans,
mortgages, and credit cards, as well as the rate that they
charge their best business customers, known as the "prime
rate."
- Consumers tend to borrow--and therefore buy--less because
it now costs more to borrow.
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