hanges in long-term rates which could cause them harm. Short-term rates are based on the federal funds rate and the discount rate, both of which are short-term in themselves. These rates can be changed relatively quickly. But changing long-term rates can require more time and carries more import since a number of economists and analysts read particular significance into these rates. As interest rates climb, companies are more likely to seek long-term rates in order to lock in relatively lower rates; as rates drop, companies are likely to take advantage of short-term rates which are moving downward rather than locking in a high long-term cost of capital.
15-4. During the 1970s and 1980s, companies began to shift from using primarily internal sources of capital to externally generated sources of capital. This was due in part to some innovative "off balance sheet" financing options which protected the shareholders from learning the true level of financing going on in some companies, but also represented an opportunity by corporations to take advantage of better rates from external sources than they could generate internally. Junk bonds and derivatives, instruments which came of age in the 1970s and 1980s, are two of the ways in which companies used external financing when they might previously have chosen internally generated capital.
15-5. The economy influences the amount of funds raised by corporations in the long-term markets because the economy has a direct effect on the cost of capital associated with those funds. For example, if the Fed is particularly concerned with keeping inflationary rates down (as it has been in recent years), and it is successful at doing so, long-term rates remain relatively stable and comparatively low. This makes the attractiveness of obtaining funds in the long-term markets relatively high, so companies are likely to use this as a source of financing. However, if rates increase, the cost of ...