The Federal Reserve System

What the world needs now is Money Sweet Money”; that is not the way the song goes however that is surely the way our world and economy does. Money and its importance relative to the US Government have always been difficult to figure out especially when it comes to interest rates. Due to our Federal Reserve System, its chairman Alan Greenspan, and his Board of Governors dedicated to seeing that our economy blossoms; those doubts have become a thing of the past, for now.

The Federal Reserve System is a central banking of the US Government, most commonly known as the FED. A central bank serves as the banker to both the banking community and the government. It issues the national currency, conducts monetary policy, and plays a major role in the supervision and regulation of banks and bank holding companies. Congress created the FED in 1913. It was designed to ensure political independence and sensitivity to the many different economic concerns. The chairman and the six other members of the Board of Governors who oversea the FED are nominated by the President of the United States and confirmed by the Senate.

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There are twelve District Reserve Banks, subsequently located in Boston, New York, Philadelphia, in Richmond, VA. In Atlanta, GA., Cleveland, OH. St. Louis and Kansas City, MO., Chicago, Minneapolis MI.,
Dallas, TX. And San Francisco. Each bank is responsible to a 9 member Board of Directors, which is set in a three-class system. The three classes are defined as A, B, and member banks elect C. Class A and the Board of Governors appoints B Directors and Class C. The Board of Directors is responsible for the administration of its banks and the appointment of the banks president and vice-president. This process is set from the base of the FED structure. Within the FED system there are member commercial banks. All national banks must join this system. They must purchase capital stock in their District Reserve Bank, entitling them to a six percent stock dividend, thus issuing them the right to vote for six of the nine Directors of that District Bank. Within this structure there was the Monetary Control Act of 1980 which imposed a reserve requirement on all depository institutions, which allows them to borrow and receive other services from the FED. This remains beneficial because by enabling banks to borrow reserves from the Reserve Banks the liquidity of the entire banking system is increased.

With that said the basic function of the FED relates primarily to the maintenance of monetary and credit conditions favorable to sound business activity in all fields; agricultural, industrial and commercial. Among this some duties include the following: lending to member banks, open market operations, establishing discount rates, fixing reserve requirements and issuing regulations concerning these and other functions. Each Federal Reserve Bank is best described as a Bankers Bank. In a nutshell, member banks use their reserve accounts with their reserve banks similar to the way we use our own checking account. They may deposit in the reserve accounts the checks on other banks and surplus currency received from their customers, and they may withdrawal on the reserve. Thus a bank with excess in the reserve requirements can enlarge its extension of credit (loans). However, lets not forget that the FED has the power to increase or decrease the supply of excess funds thus giving them major control over the amount of credit banks can extend. With this the FED basically has a powerful influence on the nations economic life i.e.. Inflation or deflation.

With inflation/deflation being an issue the FED has always been best known to the public for the influence it has on the interest rates by fluctuating the access of the Money Supply. This term means the amount of money available at any one time in the US Financial System. The most frequently used instrument in controlling the Money Supply is the FEDS open market operations. When the Federal Open Market Committee (FMOC) decides that the money supply is growing too slowly the FED can purchase government securities thus injecting cash into the financial system and expanding the monetary base. Enabling banks to create additional deposits; a major portion of the money supply. Unfortunately if the money supply grows more rapidly than desired FMOC sells securities on the open market. This reduces bank reserve and the ability of banks to create deposits. Generally the less money there is the higher is its cost causing the Rate of Interest.

As with all other company structures there is some type of chain of command. Our governmental banking system is no different. The Reserve Banks implement the decisions made by the FEDS Board of Governors and their own officers. Their staffs examine state member banks, decide on granting loans to members, and carry out routine banking functions for the Federal Government. Branching, Merching, and Holding Company decisions are handles by Reserve bank officers. The Federal Reserve Bank of New York, which incidentally handles international financial accounts, conducts sales and purchases of securities for the Federal Reserve Systems own account. With all that said at the top of the Federal Reserve System is a six member Board of Governors and the overseer of the entire system is its chairman Mr. Alan Greenspan.

In June 2000, 73 year old Greenspan began his fourth term as the Federal Reserve Board Chief. He is namely responsible and has been praised for steering the US Economy towards the longest piece time expansion in history. Unemployment is at a 30yr low while consumer confidence is at a 30yr high and inflation remains in check during this time of economic progress. Greenspan has been at the helm of the world’s most influential bank since 1987; the year of the “Black Monday” market crash, and with his reappointment is set to remain there until June 2005. This makes his reign as chairman 2nd longest in history.

In conclusion, the job of Mr. Greenspan and the Federal Reserve is not an easy one. Whenever money is involved there is always great potential for problems. With the Monetary Policy always an issue, Mr. Greenspan has to constantly come up with ways to keep our economy steady despite changes nationally and internationally. This recently became a relevant factor. At the very moment Mr. Greenspan was expected to accept his ultimate reappointment as Chair of the FED he was in the process of making it painfully clear that he was not going to allow the rapidly growing economy to foster inflationary imbalances that would undermine the economy’s record economic expansion. This and other important factors caused several short-term interest rate increases. (See graph below)
This saga continues but the FED with all they have to do has steadily maintained an economy to be proud of for now.