Why the Fed Funds Rate May Be Out of Step With the Market

As policymakers weigh the merits of lower US borrowing costs after the Federal Reserve cut its key interest rate in September for the first time this year, a new question is starting to gain urgency — whether the central bank is targeting the right benchmark rate in the first place.

Central banks seek to manage economies by setting interest rates at levels that encourage or discourage activities such as businesses investing in new projects or consumers buying homes and cars. For decades, the Fed has guided the economy by adjusting a rate that banks use to lend to each other for day-to-day needs in the so-called federal funds market. Historically, adjustments to the fed funds rate influence the amount of credit that flows into the economy, keeping it from running too hot or too cool.