Download The Federal Reserve and the European Central Bank

Chapter 16
The Structure of Central
Banks:
The U.S. Federal Reserve
and the European Central
Bank
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2008
Structure of Central Banks:
The Big Questions
• How is the Federal Reserve organized
to meet its objectives?
• How is the European Central Bank
organized?
• What are the differences and
similarities between these two central
banks?
16-2
Structure of Central Banks:
Roadmap
• Structure of the Federal Reserve
• Assessing the Fed’s Structure
• Structure of the European Central Bank
16-3
The Federal Reserve System:
Origins
• 1870 to 1907:
US had 21 financial panics
• Anatomy of 19th century bank panics:
– Crop Failure  Loan Default
– Loan default damaged rural bank
– Rural bank withdrew deposits from city bank
– Financial difficulties spread
16-4
The Federal Reserve System:
Origins
• Panic of 1907 – must be a better way.
• Federal Reserve Created in 1914
• Europe:
– Post WWII: unstable inflation & exchange rates
– Consensus moved toward monetary union
– 1999: Created European Central Bank
16-5
The Federal Reserve System:
Structure
• Federal Reserve Banks
• Board of Governors
• Federal Open Market Committee
16-6
The Federal Reserve System:
Federal Reserve Banks
• 12 Districts
• Each is a Private Non-Profit
Organizations and Chartered Banks
• Owned by commercial bank “members”
• Overseen by both
– Board of Directors
– Board of Governors in Washington
16-7
The Federal Reserve System:
The Twelve Districts
16-8
The Federal Reserve System:
Understanding the Map
• Population density in 1914
• Politics
• Railroads
16-9
The Federal Reserve System:
What the Reserve Banks Do
• Government’s Bank
– Issue currency
– Maintain the Treasury’s account
– Manage the Treasury debt
• Bankers’ Bank
–
–
–
–
–
Hold Reserve Deposits
Operate the Payments System
Make Discount Loans at the Discount Rate
Supervise and regulate financial institutions
Collect Data
16-10
New York Fed Only:
•Auction Treasury Securities
•Foreign Government Services
•Monetary Policy Operations
•Fedwire: Large Value Interbank
Funds Transfer System
16-11
Federal Reserve Bank of NY:
The Gold Vault
• 250 million ounces
• Over $85 billion at
current market prices
• 10% of all the gold that
has ever been taken
out of the ground
• One bar weights about
400 ounces
16-12
The Fed’s Role in the
Payments System
• Supply Cash
16-13
Federal Reserve Bank of NY:
The Cash
Largest in the world
Only robots go in
3 stories high and the
size of a football field.
Holds 5400 pallets of
currency each 160
shrink-wrapped blocks
of 4000 notes
16-14
The Fed’s Role in the
Payments System
• Supply Cash
– Over $800 billion outstanding in 2007
• Checks
– Over 100 million per day
• Interbank Payments & Fedwire
– 600,000 to 650,000 transactions per day
valued at nearly $4 trillion in 2007
16-15
The Fed’s Role in the
Payments System: The Fedwire
• Banks regularly make payments expecting to
be paid by someone else later in the day.
• System has substantial interdependence
• Runs on reserves – the balances commercial
banks hold at the Federal Reserve
• Reserve balances are used an average of
400 times a day!
16-16
• Treasury Direct allows individuals to
purchase U.S. Treasury securities without the
use of a broker or dealer
• With as little as $1000 you can start an
account and purchase bonds, notes or bills
through the Fed
• You do it at the auction using a
noncompetitive bid
16-17
The Federal Reserve System:
The Board of Governors
• Structure
– 7 Governors including a Chairman
and Vice Chairman
– Serve 14 year terms
16-18
The Federal Reserve System:
The Board of Governors
• Functions
– Analyze financial and economic conditions
– Administer credit protection laws
– Supervise and regulate the Reserve
Banks
– With Reserve Banks, regulate and
supervise the financial system
– Collect and publish statistics
16-19
The Federal Reserve System:
Federal Open Market Committee
• FOMC Membership:
– 7 Governors
– President of the Fed Reserve Bank of NY
– 4 of the remaining 12 Reserve Bank
Presidents in rotation
• Function:
– Set the Federal Funds Rate
16-20
Mechanics of the FOMC
• Meet 8 times a year in Washington
• Before the Meeting
– Beige Book:
• Current Business conditions
• 2 weeks prior to meeting
– Green Book:
• Forecast prepared by the Board staff
• Thursday Prior to the meeting
– Blue Book:
• Policy Options prepared by Board staff
• Saturday Prior to meeting
16-21
Mechanics of the FOMC:
The Meeting
• System Open Market Account Manager
• Director of Division of Research and Statistics
• Committee members speak on Economic Outlook
– including Bank Presidents not voting
– Chairman Speaks at the end
• Director of Monetary Affairs
• Committee members speak in Policy Round
– including Bank Presidents not voting
– Chairman Speaks at the end
• Vote
16-22
• Released at 2:15pm
– Target interest rate
– Brief statement of Committee’s view of
current economic conditions
– Balance of risks statement
– The vote
www.federalreserve.gov/fomc/
16-23
Federal Reserve System:
Structure and Policy Organization
16-24
User’s Guide to the Fed
16-25
Assessing Central Bank Structure
16-26
Assessing the Federal
Reserve’s Structure
• Independence from Political Influence
– Long terms
– Irreversible Policy Decisions
– Budgetary Independence
• Decision-making by Committee
– 12 voting members
16-27
Two events provide the foundation for
Fed independence:
1. In 1935 political appointees were removed
from the FOMC
2. In 1951 President Truman supported the
Fed’s refusal to purchase Treasury
securities that the Secretary of the
Treasury requested they buy
16-28
Assessing the Federal
Reserve’s Structure
• Communication
– Releases a huge amount of information
– Statement, minutes, transcripts
– Public speeches
– Congressional testimony
16-29
Assessing the Federal
Reserve’s Structure
• Clearly Stated Objectives
– Fed’s mandate is this vague statement
"The Board of Governors of the Federal Reserve
System and the Federal Open Market Committee
shall maintain long run growth of the monetary
and credit aggregates commensurate with the
economy's long run potential to increase
production, so as to promote effectively the goals
of maximum employment, stable prices, and
moderate long-term interest rates."
16-30
• The Fed does it’s best to stabilize the economy
• The stock market goes up and down regardless
of what the Fed does
• The Fed does not control the stock market and
will react to movements only in so far as they
comprise it’s inflation and growth objectives
16-31
European Central Bank
• European Monetary Union began
January 1, 1999
• Euro notes and coins began circulation
January 1, 2002
• As of January 1, 2008, 15 of 27
countries in the European Union
16-32
The European System
of Central Banks
On Jan 1, 2008
Cyprus and
Malta joined the
Eurosystem.
Has any other
country joined
since?
16-33
European Central Bank:
Key Players
16-34
European Central Bank:
Organizational Structure
• Executive Board and European Central Bank
in Frankfurt similar to the Board of Governors
• National Central Banks
similar to the Federal Reserve Banks
• Governing Council formulates policy
similar to the FOMC
16-35
Differences between ECB
and The Fed
• ECB does not regulate financial institutions
• ECB’s monetary intervention is accomplished
by all the National Central Banks.
• ECB’s budget is controlled by the National
Central Banks
16-36
The ECB’s Objective
and Strategy
• The Treaty establishing the ECB state:
“The primary objective of the European
System of Central Banks shall be to
maintain price stability.”
Seems clear!
16-37
The ECB’s Objective
and Strategy
• Price stability is currently defined as
inflation of close to 2 percent but not
more than in a euro-area measure
called the Harmonized Index of
Consumer Prices, over the medium
term.
16-38
Comparing the FOMC and
the ECB Governing Council
• Both have decision-making by committee
• Independence
– Long terms
– Control budgets
– Irreversible decisions
– Legislative change bigger threat for the
FOMC
16-39
Comparing the FOMC and
the ECB Governing Council
• Communication
– Policy deliberations:
FOMC more timely
– Other information:
Both make many public statements
16-40
Comparing the FOMC and the
ECB’s Governing Council
Note: On Jan 1, 2008 Cyprus and Malta joint the Eurosystem bringing the total
number of countries to 15. As a result, the Governing Council membership
rose to 21. This number is likely to continue to change.
16-41
Comparing the FOMC and the
ECB’s Governing Council
16-42
• In the 1990s the Japanese economy languished
• The Ministry of Finance (MoF) was blamed
• Until 1998, the MoF controlled the monetary policy of
the Bank of Japan
• Since 1998 the Bank of Japan has been
independent and
– Has an 8 member policy board
– Has the primary goal of price stability
– Communicates regularly to keep the public informed
16-43
Chapter 16
End of Chapter
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2008