So today the Fed dropped the federal funds rate to it’s lowest level ever. It’s ironic. I listened to a “This American Life” episode called “The Giant Pool of Money” and it was their contention that it was the Fed’s lowering of these rates are that got us into this mess in the first place.
Why? Well I’ll tell ya why…
Banks and businesses that find themselves with large amounts of money on-hand for very short periods of time park these funds in very short-term investments to earn a little money before they are used. Because the federal rates dropped so low a few years back, this practice became much less lucrative so investors started looking for new places to put their money for a day or two or five that would earn a higher rate of return.
That’s not a problem, of course. The problem arose when banks saw this pent up hunger for new investment opportunities and started creating new ones, many of them based on mortgages. Soon the hunger for mortgage-based investments grew to enormous levels, incentivizing the financial groups to create more new instruments to the point where any mortgage was attractive, even ones that weren’t actually attractive.
So, apparently, the solution to the problem created lowering the federal funds rate too low is to lower it as low as it can possibly be.
I highly recommend listening to “The Giant Pool of Money“. It’s fascinating and more entertaining than fiction.
I’m just sayin’…