A Glossary of Commonly Used Financial Terms (#2 in an Occasional Series)

July 7, 2008
By Mukesh Chatter

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With all the talk over the past few months about interest rate cuts, it’s a good time to discuss the many different terms associated with various rates. These are all terms you may encounter throughout your banking experiences. As with my last glossary term post, these definitions were originally found at InvestorWords.

Federal Reserve Board: The Board of Governors that oversees Federal Reserve Banks, establishes monetary policy (interest rates, credit, etc.), and monitors the economic health of the country. Its seven members are appointed by the President subject to Senate confirmation, and serve 14-year terms. (http://www.investorwords.com/1910/Federal_Reserve_Board.html)

Inflation Rate: At its most basic level, inflation is simply a rise in prices. Over time, as the cost of goods and services increase, the value of a dollar is going to go down because you won't be able to purchase as much with that dollar as you could have last month or last year. (http://www.investorguide.com/)

Adjustable Rate: Any interest rate that changes on a periodic basis. The change is usually tied to movement of an outside indicator, such as the prime interest rate. Movement above or below certain levels is often prevented by a predetermined floor and ceiling for a given rate. For example, you might see a rate set at "prime plus two percent". This means that the rate on the loan will always be two percent higher than the prime rate, which changes regularly to take into account changes in the inflation rate. For an individual taking out a loan when rates are low, a fixed rate loan would allow him or her to "lock in" the low rates and not be concerned with fluctuations. On the other hand, if interest rates were historically high at the time of the loan, he or she would benefit from a floating rate loan, because as the prime rate fell to historically normal levels, the rate on the loan would decrease. (http://www.investorwords.com/104/adjustable_rate.html)

Fixed Rate: A loan in which the interest rate does not change during the entire term of the loan. (http://www.investorwords.com/5892/fixed_rate.html)

To further clarify the terms outlined above, the article “Basic Economic Concepts: Inflation, Interest Rates and the Fed” is a good reference. With all the economic discussion in the news today, I hope this helps you understand the meaning around common phrases.