The Federal Reserve System Chapter 4 © 2003 South-Western/Thomson Learning.

The Federal Reserve System

The Federal Reserve System

Chapter 4

© 2003 South-Western/Thomson Learning

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Learning ObjectivesLearning Objectives How the Fed is organized

What is the Federal Open Market Committee

(FOMC)

Most important functions of the Fed

Fed’s major policy tools

What is a “lender of last resort”

Controversy regarding Fed independence

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Organizational Structure of the Federal Reserve SystemOrganizational Structure of the Federal Reserve System

Federal Reserve Act Central bank

Lend funds to commercial banks during emergencies

Provide these banks with funds to avoid insolvency & bankruptcy-

“lender of last resort”

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Organizational Structure of the Federal Reserve SystemOrganizational Structure of the Federal Reserve System Banking Reform Acts of 1933 & 1935

Congress provided additional policy tools and regulations Fed needed

Federal Reserve System a full-fledged central bank Regulate and supervise operation of financial

system Foster smooth-running, efficient, competitive

financial system Promote overall health/stability of economy

through its ability to influence the availability and cost of money/credit

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Federal Reserve BanksFederal Reserve Banks

12 Districts Each Federal Reserve Bank

district served by Reserve BankThree largest are:

New York

Chicago

San Francisco

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Federal Open Market Committee (FOMC)

Federal Open Market Committee (FOMC)

FOMC principal policy-makingbody within Federal Reserve

System.

FOMC principal policy-makingbody within Federal Reserve

System.

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Policy directive 2 – 4 paragraph statement

Represents digest of meeting Indicates policy consensus of FOMC Sets forth operating instructions (or

directive) to Federal Reserve Bank of NY regarding conduct of monetary policy

Federal Open Market Committee (FOMC)

Federal Open Market Committee (FOMC)

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Functions of the FedFunctions of the Fed

Formulation and Implementation of Nation’s Monetary Policy

Supervision and Regulation of Financial System

Facilitation of Payments Mechanism Operation as Fiscal Agent for

Government

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Exhibit 4–3The Functions of the Fed

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Fed’s Major Policy ToolsFed’s Major Policy Tools

Open market operations

Involve buying & selling of US government securities by the Fed

Discount rate & discount rate policy

Interest rate Fed charges depository institutions that borrow reserves

directly from Fed

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Fed’s Major Policy ToolsFed’s Major Policy Tools

Reserve requirements Required reserves-required reserve

ration Sweep accounts

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Who Does What within the FedWho Does What within the Fed

Board of Governors Determines reserve requirements the

discount rate

FOMC Directs open market operations

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Exhibit 4–5Division of Responsibility within the Federal Reserve System

Source: The Federal Reserve System: Purposes and Functions, (Washington, D.C: Board of Governors of the Federal Reserve System, 1984), p.5

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Federal Reserve SystemFederal Reserve System

Quasi-government agency Stabilizes the economy

Does not depend on appropriation from Congress for its funding

Exempt from many provisions of the Freedom of Information Act (1966) and “government in the sunshine” legislation

Does not take orders from anyone in executive or legislative branch of government

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Fed’s IndependenceFed’s Independence Opponents would like to see reforms such as

Change in status of Reserve Bank presidents on the FOMC

Broadening of authority of General Accounting Office (GAO) to audit Fed

Mandated disclosure of monetary policies & discussions

In part is an illusion Only maintained if Fed operates within politically

acceptable bounds Congress can change the law