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June/July 1982

The Discount Rate and Market Interest Rates: What's the Connection?

by Daniel L. Thornton

Discount rate changes invariably send newspaper reporters to the phone to call their favorite economist to ask the inevitable question: What will this do to market interest rates? The impact of discount rate changes on market interest rates apparently is the source of much public confusion and misunderstanding. The purpose of this article is to analyze the theoretical basis of the link between the discount rate and market interest rates and to review the recently observed relationship between these rates in light of the theoretical discussion.