Interest rates have enormous impact on the economy, influencing government debt, home loans, credit cards, and countless other factors. While the Federal Reserve (Fed) is often described as setting interest rates, the reality is far more complex. In a new insight, Policy Fellow Oren Swagel reviews the main schools of thought on the term structure of interest rates.

Key points:

• The Fed does not directly control the longer-term rates that matter for economic activity, such as mortgage, credit card, and auto loan rates.
• Nonetheless, the Fed is able to influence these longer-term interest rates by changing its short-term rate; the relationship between short- and long-term interest rates that explains this influence is known as the term structure of interest rates.
• The important question for the economy is therefore to what extent short-term interest rates can influence longer-term rates; this insight explains the key attempts to answer this question.

Read the analysis.