Definition of Discount rate:
Depending upon the context, the discount rate has two different definitions and usages. First, the discount rate refers to the interest rate charged to the commercial banks and other financial institutions for the loans they take from the Federal Reserve Bank through the discount window loan process, and second, the discount rate refers to the interest rate used in discounted cash flow (DCF) analysis to determine the present value of future cash flows. .
Banking: Rate at which a bill of exchange or an accounts receivable is paid (discounted) before its maturity date.
Commerce: Rate by which an invoice amount is reduced when a condition is complied with, such as payment on delivery or an order amount that exceeds a certain minimum figure.
Investment appraisal: Multiplier that converts anticipated returns from an investment project to their current market value (present value). It is always less than 1, and depends on the cost of capital (current compound interest rate) and the time interval between the investment date and the date when returns start to flow. Formula: 1 ÷ (1 + r) ^n where r is the required rate of return (interest rate) and n is the number of years. Also called discount factor or present value factor. See also discounted cash flow.
While commercial banks are free to borrow and loan capital among each other without the need of any collateral using the market-driven interbank rate, they can also borrow the money for their short term operating requirements from the Federal Reserve Bank. Such loans are served by the 12 regional branches of the Fed, and the loaned capital is used by the financial institutes to fulfill for any funding shortfalls, to prevent any potential liquidity problems or, in the worst-case scenario, to prevent a bank’s failure. This special Fed-offered lending facility is known as the discount window. Such loans are granted by the regulatory agency for an ultra-short term period of 24-hours or less, and the applicable rate of interest charged on these loans is a standard discount rate. This discount rate is not a market rate, rather it is administered and set by the boards of the Federal Reserve Bank and is approved by its Board of Governors.
Securities trading: Amount by which the market value of a bond, certificate of deposit, or share (stock) is below its par value.
Synonyms of Discount rate
Bank rate, Compensatory interest, Compound interest, Exorbitant interest, Gross interest, Interest, Interest rate, Lucrative interest, Mortgage points, Net interest, Penal interest, Premium, Price, Price of money, Rate, Rate of interest, Simple interest, Usury
How to use Discount rate in a sentence?
- In DCF, the discount rate expresses the time value of money and can make the difference between whether an investment project is financially viable or not.
- Our company has purchased its office supplies from ABC Company for years, but XYZ Company is offering us a discount rate that will save us money.
- Because it was the off-season, the travel agent fully expected to get a discount rate for his clients on airfare, lodging and vehicle rental .
- The term discount rate can refer to either the interest rate that the Federal Reserve charges banks for short term loans or the rate used to discount future cash flows in discounted cash flow (DCF) analysis.
- In a banking context, the discount lending is a key tool of monetary policy and part of the Fed's function as lender-of-last-resort.
- While looking for new tires for my car, I found a Tire shop that offered a steep discount rate for new customers.
Meaning of Discount rate & Discount rate Definition