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We like to think that when we deposit a dollar at the bank, it goes into a big vault and we can pull out that same dollar at any time. But that¿s not how the U.S. banking system works. Banks take that money and invest it to make money themselves, so cash gets spread around. This, naturally, leads to a big risk: What happens if those investments go sour? Well, you¿d be out of luck. You can¿t get your dollar back.
The Federal Reserve doesn¿t like that scenario, so it prohibits banks from putting all the cash it has on deposit on the line. In fact, the Fed forces banks to keep a portion of their assets at the Federal Reserve itself, to make sure that some of your assets won¿t get squandered if the bank¿s bets go south. These are called ¿reserves,¿ (hence, Federal Reserve. Got it? Good), and usually amount to 10% of the total cash kept in checking accounts.
These reserves are never exactly 10%, and banks like to keep a little extra in reserve ¿ not, as you might think, to make you more comfortable that they¿re in good financial shape, but rather so they can take that excess and lend it to other banks and make money off it. (They¿re banks, they can¿t help themselves.) The rate at which they make these loans is called the Federal Funds rate, which is set by the Federal Reserve¿s Federal Open Market Committee.
When you hear people chattering about how the Fed cut or hiked interest rates, this is what they¿re talking about: the interest rate banks can charge for lending money from their reserves. This begs the question: If these are essentially loans between banks, why is the Fed Funds rate so important for the rest of the economy?
Well, simply put, because loans make the financial world go round. Bank A lends Bank B $10,000 at a Fed Funds rate of 5%. Bank B then lends out $10,000 to a small business at 7%. The small business then takes that money and expands the business and hires new workers. Now someone is employed, Bank B has made interest off the loan, and Bank A is the richer for making it all happen. It¿s perhaps overly simplistic, but you get the idea. When you want the economy to thrive, you make lending cheaper.
Of course, sometimes you don¿t want the economy to thrive. In fact, you might want it to cool down, mostly to avoid money flooding the system and causing inflation. In that case, the Fed raises interest rates, making it difficult to lend or borrow.
Home / Markets / Industries / Finance
Tuesday, May 06, 2008
Retirement, Leadership Issues Top Fund-industry Meeting Agenda
Robert Schroeder
MarketWatch
WASHINGTON -- As mutual-fund investors come to grips with a weak economy and a shaky stock market, fund industry executives are gathering in Washington to discuss issues including retirement savings and the ongoing challenges to the fund business.
The Investment Company Institute's 50th annual general membership meeting begins Wednesday, bringing top industry leaders together after a lengthy stretch of losses for many fund shareholders, but a still-strong time for fund companies themselves.
Net new money into long-term stock and bond funds totaled $23 billion from the onset of the credit crisis in August through the end of March, according to the ICI, the fund industry's main trade group.
"There's been market depreciation, to be sure, but people are still putting money aside, significant amounts, into long-term stock and bond funds," ICI President and CEO Paul Schott Stevens said in an interview.
Stevens acknowledges that markets are volatile, but says investors have remained committed to funds through times of market turbulence. This current round of instability, he suggests, should be no exception, as investors decide where to put their money.
"Stick with the discipline," says Stevens, "and if you do that in good times and bad, you're much more likely to be able to achieve your long-term goals." Especially, he says, if a fund is professionally managed, highly diversified and transparent, and has very little leverage and strict pricing disciplines.
"The message we'd like to send to investors is, don't panic," says Stevens. "Stick to the discipline and stay the course."
Executives will meet through Friday and follow a broad agenda mirroring the concerns and opportunities of the biggest fund companies. They'll hear about ways to meet the investment needs of both retirees and the sponsors of 401(k) and other retirement plans, and explore the trends shaping the fast-growing exchange-traded fund business, including a push toward actively managed ETFs and the role of ETFs in retirement plans.
The conference's keynote speaker will be Jamie Dimon, the chairman and chief executive of JPMorgan Chase & Co. (JPM) , who is slated to address the forum on Thursday. Other scheduled speakers include outgoing Vanguard Group CEO Jack Brennan, and Vinton Cerf, vice president and "chief Internet evangelist" of Google Inc.
Brennan will moderate a panel on Thursday about leadership in the world of investing that will feature participants from Ariel Capital Management, Affiliated Managers Group and American Century Investments. Arthur Zeikel, the retired chairman of Merrill Lynch Asset Management, will also participate.
Also Thursday, executives will discuss how to foster Americans' retirement savings, in a panel to be moderated by James Riepe, senior advisor and retired vice chairman of T. Rowe Price Group.
The group's agenda includes myriad other panels and discussions, including one on alternative investment strategies for retail funds and, in this election year, a presentation from historian Michael Beschloss about presidential courage.
Copyright © 2008 MarketWatch, Inc.
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