Final answer:
Interest rates move in tandem due to actions by the central bank, such as the Federal Reserve, through open market operations changing bank reserves. These operations affect the federal funds rate, and therefore, other interest rates like the prime rate move correspondingly.
Step-by-step explanation:
The overnight rate moves in tandem with other interest rates in the economy for several reasons. One key reason is through the open market operations conducted by the central bank, such as the Federal Reserve in the United States. When the Federal Reserve performs these operations, they are effectively changing bank reserves. This impacts the supply curve of loanable funds, which in turn affects interest rates, including the federal funds rate. This is the rate at which banks lend money to each other overnight. If this target rate is adjusted, it typically leads to corresponding changes in other rates in the economy, like the prime rate, which is often a few percentage points above the federal funds rate.
Banks lend at higher rates than they borrow to earn a profit. For instance, if the Fed's rate is set at 1%, then the prime rate would normally be around 4%. The central bank can raise or lower interest rates through its policy actions to meet its inflation and economic stability goals, affecting all sectors of credit markets, from consumer loans to business lending rates.