Overnight rate is an agreement between two banks or financial institutions that enables them to lend or borrow money from each other on an overnight basis, usually without incurring an interest rate. It is an important tool employed by central banks to maintain the stability of the financial system.

The overnight rate, also known as the interbank overnight rate or the overnight deposit rate, is the rate at which banks can borrow or lend funds to each other at the end of the day. It is a short-term interest rate and is often used as a benchmark for the cost of borrowing in general. Because it is based on what would be considered a risk-free rate, it is a reliable indicator of broader economic health and changes in overnight rate often provide the first clues of a possible shift in economic sentiment.

It is primarily used by lenders to control and dictate the cost of short-term borrowing. The higher the rate, the more expensive it is for borrowers to access short-term capital, and vice versa. This rate has a major impact on the overall economy and can be a significant driver of inflation and employment. Changes in the overnight rate can cause market interest rates, such as mortgage rates and car loan rates, to move in either direction.

The Federal Reserve System usually sets the overnight rate. The Federal Reserve (the Fed) uses the overnight rate to influence economic trends, such as the rate of economic growth, employment, and inflation. By increasing the overnight rate, it effectively raises the cost of borrowing, making it more expensive for banks to lend money. On the flip side, by reducing the overnight rate, the Fed encourages lending by reducing the cost of borrowing. This can help stimulate economic growth.

In conclusion, the overnight rate is an important indicator of the health of the economy. It is used by the Federal Reserve to influence economic trends such as inflation and employment, and is an indicator of short-term interest rates in the broader economy. Changes in the overnight rate are typically passed on to consumers, and so can have significant implications for rates on mortgages, car loans, and more.