The Federal Reserve System
The Federal Reserve System denotes United State’s central banking system. Informally referred to as the Fed, the Federal Reserve System is a banking system that operates in a quasi-public and quasi-private kind of setting. This is to mean that the system is a federal entity but which incorporates some private components. The Federal Reserve Act established the United State’s central banking system in 1913 in a bid to contain banking panics. Its roles have however increased with various amendments being made on the Federal Reserve Act. The Federal Reserve System is an independent entity and is meant to operate without any political influence. This paper will look into the Federal Reserve System structure and role in the U.S economy.
The Federal Reserve structure is divided into four segments (Federal Reserve Board, 2005). The Board of governors consists of seven members appointed by the President. Second is the open market committee which consists of five reserve bank presidents and seven members from the Board of Governors. Reserve banks are responsible for the regular operations of the Fed in areas where they are designated. Each of these banks has nine board members who should be selected from outside the banks. Lastly, there are member banks which are national banks chartered by the government and which must be members of the Federal Reserve System.
The Federal Reserve was established with a central role of containing banking panics such as bank runs which usually left banks destitute (Grey, 2002). This role was awarded with the establishment of the Federal system in 1913 following a decision made by the Congress as a result of the negative effects of the 1907 bank crisis (Grey, 2002). The responsibilities given to the Fed have now expanded and it does not only concern itself with maintaining economic financial stability (Hafer, 2005). The Federal Reserve Act defines the Federal Reserve System functions as will be discussed in the next session of the paper.
1) Monetary Policy
Monetary policy has to do with the amount of money in circulation in the economy at any given time. The Federal Reserve System through the Board of Governors makes use of economic instruments to influence the availability of money in the economy (Hafer, 2005). Monetary policy is a tool used to maintain a non-inflationary economic stability. This is mostly done through restricting or relaxing credit requirements on banks and through the sale or purchase of government securities (Grey, 2002). Use of government securities to influence money supply is known as open market operations. Instruments used to restrict credit include reserve requirements, interest rates, margin requirements and moral suasion among others (Federal Reserve Board, 2005).
2) Issuer of currency
The issuance of all currency in the United States is undertaken by the Federal Reserve System. It is responsible for the printing of money bills which are used as a medium of exchange (Hafer, 2005). The Federal Reserve is given this role because minting of money is a sensitive undertaking which cannot be left under the hands of the private sector. In this function, the Fed is responsible for eliminating old notes in circulation and replacing them with new ones.
3) Banker and advisor to the government
The Federal Reserve System is responsible for all government banking functions. Government funds are deposited with the Federal Reserve and it is mandated with managing the government accounts (Grey, 2002). The Federal Reserve also acts as an advisor to the government. It is the duty of the Fed to give advice to the government on the best policies to adopt in dealing with certain issues. Most of these issues necessitate financial advice.
4) Bank regulator and supervisor
There is a broad range of regulatory and supervisory duties that the Federal Reserve must fulfill. It is responsible for the supervision of the entire banking system and has a duty to make sure that all banks comply with regulations and safety precautions (Grey, 2002). In this respect, the bank has the power to require periodic reports from banks and other financial institutions. It also ensures fair and efficient service delivery to customers (Hafer, 2005).
5) Financial services to financial institutions
The Federal Reserve System is a banker to financial institutions such as banks and cooperative societies (Grey, 2002). These institutions bank with the Federal Reserve and also benefit from other banking functions such as foreign exchange operations and access to loans.
6) Lender of Last resort
The Federal Reserve helps banks that are threatened by collapse by lending them money to help revive business (Hafer, 2005). This is only done when there are no other measures available for the bank or where the bank’s collapse would have serious consequences on the overall economy due to its strategic position.
7) Clearing house
The clearing house facility is whereby banks can meet once in a while to offset any debts and claims they have with one another through presentation of checks paid to them from the different banks (Hafer, 2005). Transactions are performed through commercial bank accounts at the Federal Reserve.
The Federal Reserve System plays an important role in the economy and in its absence, likely imbalances would exist. Its responsibility of maintaining a non-inflationary economy through the use of policy instruments ensures a conducive economic atmosphere which promotes development. By regulating financial institutions, cases of unfair practices and consumer oppression through high interest rate and non-disclosure tendencies are avoided. The government monetary transactions are also made easier by the Federal Reserve System. We can therefore conclusively say that it the Federal Reserve System is a vital institution in the United States.
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Grey, G. B. (2002). Federal Reserve System: background, analyses and bibliography. Carbondale, IL: Nova Publishers.
Hafer, R. (2005). The Federal Reserve System: an encyclopedia. New York: Greenwood Publishing Group.
The Federal Reserve Board. (2005). The Federal Reserve System: Purposes and Functions. U.S: Federal Reserve Board. Available at http://www.federalreserve.gov/pf/pf.htm