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The Federal Reserve System Monetary Policy Federal Reserve System (Fed) EMA2 Standard: A. Explain the organizational structure of the Fed Board of Governors District Banks Federal Open Market Committee (FOMC) Federal Reserve System (Fed) Organization The US’s decentralized, central bank Both private and public Created in 1913 to help instill trust in the country's banking system Created by an act of Congress – can be dissolved the same way Federal Reserve System (Fed) Board of Governors Seven (7) members of the board of governors are nominated by the president and confirmed by the Senate Full term is 14 years One term begins every two even numbered years Chairman and Vice Chairman serve 4-year terms Usually are renewed for a second term “Public” portion of the FOMC Federal Reserve System (Fed) Public Aspects Fiscal agent of the United States Paper money is a Federal Reserve Note – backed by the US government Profits earned by the Fed are transferred to the Government Year Transferred Jan 2012 $77 billion Jan 2013 $88.9 billion Jan 2014 $77.9 billion Jan 2015 $98.7 billion Federal Reserve System (Fed) District Banks 12 district banks Chartered Private 1 9 by Congress 2 member banks Board of Directors 7 12 4 10 2/3rd elected by member banks 1/3rd elected by the Board of Governors 5 8 11 3 6 Federal Reserve System (Fed) Federal Open Market Committee (FOMC) FOMC Members Board 5 of Governors District Federal Reserve Bank presidents Always includes the NY Fed Bank President Sets Monetary Policy Monetary Policy Goals Steady Economic Growth GDP (2.8-4%) Promote price stability or Appropriate level of Inflation CPI (2%) Full employment 4% Unemployment rate Federal Reserve System (Fed) Federal Open Market Committee (FOMC) 3 Tools to stabilize the economy Open Market Operations Buy and sell bonds Change the Discount Rate Interest rate charged to commercial banks for loans received from the Federal Reserve Bank’s discount window. Minimum interest rate set by the Federal Reserve for lending to other banks Change the Reserve Requirement Amount of deposits banks must keep on hand Reserve Requirement Reserve Requirement 5% 10% 20% Multiplier Formula Deposit Amount 1/.05 = x20 1/.1 = x10 1/.2 = x5 $10,000 $10,000 $10,000 Loans Generated $ 200,000 $ 100,000 $ 50,000 What happens when you: add money from the economy? subtract money from the economy? Federal Reserve System (Fed) Federal Open Market Committee (FOMC) Monetary Policy Fed is concerned about inflation (price stability): Tool: Open Market Operations Action: Effect: Banks and individuals use their money to purchase bonds • Less money available for lending • Fed funds rate rises • Less borrowing Sell Bonds Discount Rate Raise the discount rate • Less borrowing Banks raise the federal funds rate • Spending is reduced • Prices fall Reserve Requirement (least used) Raise Reserve Requirement (percentage) Multiplier effect reduces amount of money to loan Tight Money – Contractionary Policy Federal Reserve System (Fed) Federal Open Market Committee (FOMC) Monetary Policy Fed wants to promote full employment and economic growth: Tool: Open Market Operations Discount Rate Action: Effect: Banks and individuals sell their bonds • More money available for lending • Fed funds rate falls • More borrowing/spending Buy Bonds Lower the discount rate Banks lower the federal funds rate Reserve Requirement (rarely used) Lower Reserve Requirement (percentage) • Encourages borrowing • Spending increases • Economic activity increases Multiplier effect increases amount of money to loan Loose Money – Expansionary Policy Monetary Policy Loose Money – Expansionary Policy Used during Tight Money – Contractionary Policy Contractions Used during Expansions Intended to make money available Intended to take money out of the economy Available money encourages spending Less money discourages lending and spending Spending encourages business growth Slows consumer spending and business growth The Federal Reserve System Monetary Policy
