THE FEDERAL RESERVE SYSTEM

• The Fed was created in 1914 after a series of bank failures convinced Congress that the United States needed a central bank to ensure the health of the nation’s banking system.

The Fed’s Organization

• The Federal Reserve System is made up of the Federal Reserve Board in Washington, D.C., and twelve regional Federal Reserve Banks.

The Federal Reserve System

Copyright©2003 Southwestern/Thomson Learning

The Fed’s Organization

• The Fed is run by a Board of Governors, which has seven members appointed by the president and confirmed by the Senate.

• Among the seven members, the most important is the chairman. – The chairman directs the Fed staff, presides over

board meetings, and testifies about Fed policy in front of Congressional Committees.

Janet Yellen

The Federal Open Market Committee (FOMC)• Three Primary Functions of the Fed

1.Regulates all banks operating in each region(monitors their accounting, balance sheet etc.)

2.Acts as a banker’s bank, making loans to banks, conducts check clearing and other financial services.

3. Conducts monetary policy by manipulating the money supply. (make $ easy or difficult to get)

–TWO GOALS OF MONETARY POLICY–1. Ensure Price Stability–2. Foster Growth in the Economy

The Fed’s Tools of Monetary Policy

• The Fed has three tools in its monetary toolbox:– Changing the discount rate

• The rate that the Fed. charges banks to lend them money

– Open Market Operations– Changing the reserve requirement

The Fed’s Tools of Monetary Control

• Changing the Discount Rate– The discount rate is the interest rate the Fed

charges banks for loans.• Increasing the discount rate decreases the money

supply. • Decreasing the discount rate increases the money

supply.

The discount rate is the lowest interest rate in the country, because it’s loans the FED makes to its member banks.

“”Easy” Monetary Policy

“Tight” Monetary Policy

“Easy” Monetary Policy

The Fed’s Tools of Monetary Policy• Open-Market Operations

– The Fed conducts open-market operations when it buys government bonds from or sells government bonds to the public:

• When the Fed buys government bonds, the money supply increases.

» HOW? Let’s figure this one out!» Yes, you can buy U.S. bonds Weekly Treasury Bond» How can I buy Treasury Bonds?

• The money supply decreases when the Fed sells government bonds.

Yes, you can buy U.S. bonds Weekly Treasury Bond Auction –

The Fed’s Tools of Monetary Control

• Changing the Reserve Requirement– The reserve requirement is the amount (%) of a

bank’s total reserves that may not be loaned out.• Increasing the reserve requirement decreases the

money supply. • Decreasing the reserve requirement increases the

money supply.

Summary

• Because the Fed cannot control the amount bankers choose to lend or the amount households choose to deposit in banks, the Fed’s control of the money supply is imperfect.

Let’s see what you learned

• If the Fed wants to increase the money supply, list 3 things it can do.– Buy gov. bonds in the OPEN MARKET (open

market operations)– WHY?

– Lower the reserve rate– WHY?

– Lower the discount rate– WHY?

If the Fed wants to decrease the money supply, list three things it can do.

Sell gov. bonds in the OPEN MARKETWHY?

Raise the reserve ratioWHY?

Raise the discount rateWHY?