Prime rate
Also known as: prime interest rate, prime lending rate
The prime rate is the interest rate that commercial banks charge their most creditworthy corporate customers. It serves as a benchmark for many other loans, including credit cards, home equity lines of credit, and small business loans.
The prime rate is the baseline interest rate that banks offer to their best customers — typically large corporations with strong credit. Because these borrowers present the least risk of default, they qualify for the lowest widely available lending rate a bank offers.
Banks set their own prime rates, but in practice nearly all U.S. banks move together, pegging the prime rate at roughly 3 percentage points above the federal funds rate set by the Federal Reserve. When the Fed raises or lowers its target rate, the prime rate follows almost immediately.
The prime rate matters far beyond corporate lending because it is the reference point for a huge amount of consumer credit. Variable-rate credit cards, home equity lines of credit (HELOCs), adjustable-rate mortgages, and many personal and small business loans are quoted as "prime plus" a margin — so when the prime rate rises, borrowing costs across the economy rise with it.
For securities exam purposes, the prime rate is one of several key benchmark rates to know, alongside the federal funds rate (banks lending to each other overnight), the discount rate (the Fed lending directly to banks), and the broker call rate (banks lending to broker-dealers). The prime rate is generally the highest of these benchmark rates.
Key takeaways
- The prime rate is the interest rate banks charge their most creditworthy corporate customers.
- It typically sits about 3 percentage points above the federal funds rate and moves in lockstep with Federal Reserve policy.
- Many consumer rates — credit cards, HELOCs, small business loans — are quoted as "prime plus" a margin.
- On securities exams, know the ordering: the prime rate is generally higher than the discount rate and the federal funds rate.