"Can anyone tell me why banks need the Fed to tell them what they should be charging their customers for interest?
If the free market is such a good thing (and by and large I believe it is) then why can't interest rates be subject to free market pressures as well?"
That's a good question. I'd have to answer it by saying that when you say "banks" you're lumping together "lending institutions" with "depositary institutions". A combo lender/depositary inst could easily, easily get itself into serious [lack of funds] trouble should it lend out a "nominal" amount of its' deposits when suddenly, a big depositor wants to draw/cash a big fat check. What does the bank do when it cannot cash a check out of depositors' funds? It has to borrow from the Fed. And so, very schematically, you can see the value of this ONE aspect of Fed "lender of last resort" activity. Lest you think this is total fantasy, I have actually walked into a Bank of America and tried to cash a $4000. check and had the teller tell me they DIDN'T HAVE enough funds on hand to cash the check! I was going to buy some silver, LOL. But I couldn't believe it. $4000? Gotta be kidding me. Yes, it was near the end of the day on a Friday, but 4 grand for the B of A? That ain't spit!
"Credit card companies charge whatever interest they can get their customers to tolerate. Why not so for banks?"
Well, not exactly, there are usury laws limiting interest rates, though if you look at some of 23.9% "penalty" rates some CCs charge, you may doubt the statement.
On the level you're speaking about, even extrapolated to national banks with multi-state operations, the Fed's willingness to supply currency and credit to member banks and by extension most other retail establishments we think of as "banks" is IMO rooted in preventing the type of "bank runs" that occurred during the depression and keeping a high degree of confidence in the banking system in general. And much as I personally am down on the Fed, this aspect is important.
So...if banks want to expand their business (borrow from depositors and lend out the funds at margin) then they BETTER not get themselves into a situation; either by making bad loans OR competing for lending biz (via low interest rates) such that they get into a jam and have to borrow from the cookie jar at a rate that's HIGHER than what they may be charging their customers.
Now....when the Fed gets into expanding and contracting the money supply, fiddling with interest rates, and coming to the rescue of the biggest players on Wall Street...then I would argue that they are not only exceeding their mandate, but also distorting the economy annd financial markets in ways that are complex and convoluted. But you didn't ask about that, so I won't go there!
The money they lend out is backed by Treasury Securities.
Part of a president's success is dependent on having these people loan out money wisely such that the government breaks even (or even makes a little profit) in lending out the money and doesn't get stuck with too many delinquent loans.
These folks could also indirectly set the reserve ratio by either only lending to banks with a reserve ratio above a certain amount, or charging more to banks with lower reserve ratios.
Banks would be regulated to some extent by some other agency. That other agency might provide a grade to each bank in terms of their past performance and current financial state. This grade could also influence the rate at which these banks could borrow money.
Also, these banks would also be able to loan money back to the government to help the government cover other bank loans without having to issue more Treasury securities. Sort of how some businesses/people can sell power back to the power companies if they are a net generator.
In this way the Fed (or whatever we call it) is more a passive loaner of last resort rather than a mover-and-shaker in the world of finance.
My two cents says they were lying when they dishonored your check, that there was a policy in place not to pay out any big checks under certain circumstances. But whatever their reason, "no" is always the wrong answer when you want your money, so you'd be well-advised to move your funds elsewhere, someplace where the answer is always "yes".
What if someone in your family had an accident and the hospital demanded a large deposit as proof of ability to pay? I've had a hospital demand $100 cash on the barrel just to talk to me -- and I had health insurance! You might need bail for a cousin or money for an emergency trip out of town (funeral, family crisis, family members trapped in a city riot, fire wiped out your apartment) -- who the hell cares? If you need the money, you need the money, and "no" is never the right answer. The right answer is, we will get you your money, even if we have to send a courier on a pogo stick over to three of our branch offices after five o'clock -- the right answer is, "would you like to take a seat while we get the lead out and get your money?"
Thanks for the warning and their "service if we feel like it" attitude.