basis point

Background

A basis point (abbreviated as bp or bps) is a standard unit of measurement in finance, particularly in the context of interest rates, bond yields, and other percentages representing financial performance. It is especially significant in fields where precise, small numerical changes are critical.

Historical Context

The term basis point has been used in financial writing since at least the mid-20th century, aligning with the increasing complexity and sophistication of financial markets and monetary policy. As financial markets globalized and the precision of interest rate changes became more critical to market participants, the need for a standardized unit of measurement like the basis point arose.

Definitions and Concepts

Basis Point: One basis point is equal to 0.01% or 1/100th of a percentage point. When comparing two interest rates or yields, a change from 2.00% to 2.50% is considered to be a 50 basis point increase.

Major Analytical Frameworks

Classical Economics

Classical economics focuses more on real variables like long-term growth accruing from changes in capital and labor rather than on short-term changes in financial metrics. Therefore, the concept of basis points is less central but can be seen in discussions about interest and inflation rates.

Neoclassical Economics

In Neoclassical economics, precise measurement of interest rates using basis points is crucial for models of investment, consumption, and growth. Changes in interest rates, measured in basis points, can influence aggregate supply and demand curves.

Keynesian Economic

Keynesian economics emphasizes the importance of monetary policy in managing the economy. Basis points are key to understanding central bank policies, as changes in interest rates in precise measurements can deeply impact aggregate demand and economic stability.

Marxian Economics

Marxian economics is less likely to focus on such precise measurement changes, as it deals more with broader structural issues in capitalism, labor, and production. Nevertheless, modern interpretations might use the concept to analyze financial capitalism.

Institutional Economics

Institutional economics could leverage the measurement of basis points to study how institutions, especially central banks and financial regulations, impact micro and macroeconomic performance through small adjustments in interest rates.

Behavioral Economics

Behavioral economics may analyze how psychologically and behaviorally people react to changes in financial scenarios using fine adjustments measurable by basis points. For instance, investor confidence and risk-taking can change noticeably even with small rate adjustments.

Post-Keynesian Economics

Post-Keynesians focus on economic real-world complexities, and basis points would be significant in their analyses of how much slight changes in interest rates can affect financial markets and economic output.

Austrian Economics

Austrian economists might utilize the concept of basis points when arguing about the effects of central bank policies on interest rates and how even small rate changes can distort capital investment and economic behavior.

Development Economics

In development economics, basis points can be crucial for understanding borrowing costs for developing nations. Small changes can significantly impact debt sustainability and economic development projects.

Monetarism

Monetarists rely heavily on precise measurements like basis points to understand the impact of changes in the money supply on inflation and interest rates. Even minimal changes measured in basis points can reflect broader monetary policy shifts.

Comparative Analysis

The significance of basis points can vary according to different economic theories. For instance, in monetarist frameworks, basis points directly influence economic variables like inflation and money supply, while from a Keynesian perspective, they might mainly be a policy tool used to stabilize aggregate demand.

Case Studies

Federal Reserve Rate Hike: A notable case can be observed in 2018, when the Federal Reserve raised its benchmark interest rate by 25 basis points, signifying a direct effect on borrowing costs and economic activity.
Quantitative Easing Impact: Analysis of specific periods where central banks have lowered interest rates by several basis points to stimulate the economy can showcase the effectiveness of monetary policies.

Suggested Books for Further Studies

“Monetary Theory and Policy” by Carl E. Walsh
“Principles of Economics” by N. Gregory Mankiw
“The Economics of Money, Banking, and Financial Markets” by Frederic S. Mishkin

Interest Rate: The percentage of principal charged by the lender for the use of its money.
Bond Yield: The return an investor realizes on a bond, often quoted in percentages.
Monetary Policy: The process by which the monetary authority of a country manages the supply of money and interest rates.
Percentage Point: A unit for the arithmetic difference of two percentages.