The Federal Reserve: An Insight into the Most Powerful US Economic Body

Written by FCJ Editor. Posted in Opinion, Politics

Tagged: , ,

Published on February 10, 2012 with 3 Comments

By Rick Murphy, guest contributor

February 10, 2012

The Federal Reserve System, more popularly known as “the Fed,” is the central banking system of the United States of America. It was established in the year 1913 on 23rd December with the enactment of the Federal Reserve Act, largely in response to a series of financial panics that had gripped the nation. With the passage of time the roles and responsibilities of the Federal Reserve System have spread its horizons and evolved. One of the major events that facilitated the changes in the system was the Great Depression.

Initially the Congress had established three major objectives for monetary policy: maximum employment; stability of prices and interest rates in the long term being moderate. Most often the first two objectives are referred to as the dual mandate of the Federal Reserve.

The duties of Federal Reserve have expanded with time, and in the current times, as per the Federal Reserve documentation, includes a host of other activities. These activities include conducting the monetary policies of the nation, regulating and supervising the banking institutions, maintaining the stability of the financial system, and providing financial services to different institutions such as depository institutions, the U.S. government and foreign official institutions. Another responsibility of the Fed is to conduct research into the economy and release a number of publications regarding its findings.

Is the Federal Reserve a public or private organization?

The strange part is, the Federal Reserve is neither public nor a private organization. If you consider one perspective, the Fed will look like a public institution. The Congress had created it in the year 1913 so that the financial stability of the system is maintained. By the usual norm, the President appoints and the Senate confirms the members of the Board of Governors of the Federal Reserve. It is not an institution which is out there to make profits as it hands over its earnings to the Treasury after taking care of its own expenses. Additionally, the details of its responsibilities are subjected to scrutiny by the Congress. Regardless, the Fed is classified as an independent central bank and rightly so. This is because neither the executive or legislative branches has any direct say in the decision making process by the Fed. The institution pays for its own operations by primarily acquiring U.S. government securities in the open market. Hence, the Fed can be considered an independent entity within the government.

The organization of the Federal Reserve is like a federation. There is a central governing agency in Washington D.C., and 12 other regional banks scattered across the country. These 12 banks issue shares of stocks to various other member private banks such as Deutsche Bank Trust Co. of America and the Gotham bank of New York. However, it should be kept in mind that the member banks don’t have the permission to sell or trade the shares issued by the Fed, which produce dividends at a fixed rate of 6 percent. These member banks are required to invest 3 percent of their capital to the Federal Reserve Banks.

The main reason for this kind of set-up for the Fed is that the period before its creation, the conservatives and the progressives engaged in a heated turmoil. The conservatives preferred a privately-run central bank while the progressive favored a public, government operated reserve. As a result of these conflicting opinions, the hybrid quasi-public system was born. It is kept aside from partisan politics, the board members serve a 14-year term and work for the public interest as its ultimate accountability lies with the legislature.

How does the Federal Reserve affect the value of the U.S. dollar?

The U.S. international economic policy is largely set by the Department of the Treasury, including the policies controlling the dollar. The value that the dollar will take is determined in foreign exchange markets and neither the U.S. Treasury of the Federal Reserve is able to target a level for the exchange rate.

Nevertheless, the movement that occurs in the exchange value of the dollar represents a vital consideration for monetary policy. These kinds of movements affect the U.S. economic activities and prices and comprise one of the ways the effects of monetary policy reach the broader economy. In regard to this, while the monetary policy of the U.S. does not aim to achieve a particular level for the dollar, policymakers consider the effects of the dollar on prices and economic activity in the United States. As a result of this, the money supply has to be controlled by the Fed through open market operation. The required reserves that the Fed has enable it to influence lending activities. As long as the Fed has reserves in excess of requirements it will be able to broaden its horizon to extend credit. The authorities of the Federal Reserve have the power to increase or decrease the supply of excess funds and are able to control the amount of credit that banks will be able to extend. Thereby, the Federal Reserve is able to exert a powerful influence on the nation’s economic life by controlling the credit market.

Rick Murphy is a contributory writer associated with He holds his expertise in the Debt industry and has made significant contributions through his various articles.