The Money Market
The "money market" is a general name for exchanges in short-term debt, which is mostly banks that require funds to compensate for variances in their cash flows. Debt sold on the money market may be original (a bank seeks to borrow money for a short term) or it may be secondary (a loan contract that may have been written long ago but is due for collection soon). Those who seek to purchase debt include banks, governments, bill brokers, and others who have money to invest but no short-term opportunities.
Various factors cause the London money market to be highly active. The requirement for the bank to redeem notes on demand also creates a high level of fluctuation that cause the BE to have constant motion and short-term demands for cash, clearinghouses in London often require "overnight" money (to be repaid the next business day), and many continental banks and businesses participate in the London market for lack of sufficient volume of activity in their domestic money markets.
As the central bank, the BE has an interest in balancing supply and demand in the money market. The interest paid in the money market sets the standard for short-term and low-risk lending, which has a strong influence on the rates demanded of longer terms: if an investor can make a high return on short money, he has little interest in taking the risk of long-term lending unless borrowers are willing to pay a higher rate. For this reason it has been said that the BE is "antagonistic" toward the money market, constantly working to prevent trends that would cause the value of money to increase or decrease if left to the natural consequence of trading behavior.
The author lists some of the "prevailing" interest rates in London:
- BE Bank Rate - The minimum rate at which the BE will discount bills, determined once weekly.
- BE Loan Rate - No indication on origin, but noted to be "a trifle higher" than the bank rate.
- Market Discount Rate - The going rate charged by bill brokers and commercial banks for discounting bills, which is often two rates (one for banks, another for trade bills)
- Deposit Rate - The rate of interest paid by commercial banks to their depositors
- Seven-Day Rate - The rate commercial banks charge for lending money for one week
These rates interact with one another, whether through competition for money or credit (the investor or borrower may choose between opportunities) or through consumer behavior (if the seven-day rate is less than the deposit rate, profit can be made borrowing and depositing money for a week). These are also short-term and safe methods of borrowing and investing, against which any longer term or riskier prospect must offer a premium to attract lenders.
The money market obeys the basic principles of supply and demand, with unsatisfied demand driving interest rates up and unwanted supply driving rates down. The amount of both demand and supply depend on a variety of factors "which cannot be accurately gauged" as they are the aggregated effects of many individuals' commercial behavior, but a few general observations are offered: