Federal Reserve

• The Federal Reserve System is a banking system that controls many aspects of banking and financial laws in the United States. The Federal Reserve sets the federal funds rate, which is a very important rate for banks. It governs how much interest banks can charge each other when Federal Reserve funds are lent to other banks. The institution also sets rates for a number of other financial instruments, such as government bonds.
  
  

The Prime Rate

• The federal funds rate determines how costly it is for banks to charge one another for loans. In return, the banks make the prime rate, which is a standard rate that all financial institutions use as a benchmark for deciding a variety of their rates, including loans for many different types organizations and individuals.
  
  

Home Equity Lines of Credit

• The prime rate is used by lenders to decide home equity lines of credit or mortgage loans. Different rates are determined when banks examine a variety of data, including the rates that the Federal Reserve sets. Whatever the Federal Reserve does, there is a ripple effect that changes how banks offer mortgages and what rates they charge.
  
  

Prediction and Timing

• Mortgage rates are decided by far more than the federal funds rate. Overall, the federal funds rate moves a little too quickly to affect mortgage rates to a great extent. Lenders tend to set mortgage rates based on forecasts of future rates and long-term data. This tends to be more dependable than discount rates set by the Federal Reserve.
  
  

Long-Term Rates

• The Federal Reserve also sets the rates for the more long-term bonds that it trades between banks and similar organizations. Three-month Treasury bills, for instance, tend to mirror mortgage rates closely, since lenders see these as a better indication of future rates and financial conditions. When 10-year Treasury bill rates are compared to mortgage rates over long periods, they tend to mirror changes even more exactly.