6/17/2022
Few financial organizations have as much impact on the world economy as the US Federal Reserve. Headquartered in the imposing Eccles Building in Washington DC, it is the meeting place for a select group of economists to decide the path to follow for this nation. For this reason, it is ideal that you know its evolution.
Federal Reserve Background
The FED, as the Federal Reserve System is known, is not the first version that the US government tried to have a central bank. In fact, the oldest known attempt was chaired by the famous Alexander Hamilton during the presidency of George Washington (1791) and did not have the approval of Thomas Jefferson himself.
Distrust of centralized institutions was deeply rooted in the culture of this country, so this attempt barely lasted 20 years. Later, the next move to install economic control was thwarted by former President Andrew Jackson, back in 1836. This decentralized vision is what would shape the structure we know today.
Origin of the current Fed
The Federal Reserve is considered the central bank of the USA and is a product of the Federal Reserve Act, created in 1913. It is made up of a Board of Governors (7 members) who are in Washington, the Federal Committee of the Open Market (FOMC), 12 presidents of regional banks and any other private banking entity that so wishes.
It is considered a public-private consortium, for this reason the members of the Board of Governors do not receive a salary from Congress and can remain in office until they resign or are removed. Members of this body are usually appointed by the president. Once this happens, they have complete autonomy, although they can be removed from their positions by the first national president according to the United States Code (Sec. 242, Tit. 12).
On the other hand, all banks in the country are affiliated with the Federal Reserve and use banknotes or federal reserve notes, which give the monetary system some flexibility. As a federal government agency, it must comply with the Freedom of Information Act statutes. It is an independent entity that does not depend on the decisions of the president or the executive or legislative system.
Purpose of the Fed
The main and secondary functions of the Federal Reserve are diverse, but its primary objectives can be summarized as follows:
- Regulate and supervise the banking entities that make up the national financial system with the intention of protecting it. It also plays an essential role in safeguarding the credit rights of the American people.
- Take the reins of monetary policy in order to direct the credit and monetary conditions that affect the economy. This pursues objectives such as: a higher level of employment, moderate long-term interest rates and stable prices to reduce inflation.
- Provide financial services to the government, deposit entities and official institutions of other countries, which are supported by the national payment system.
- Establish risk management measures within the financial system to maintain economic stability at the most critical times.
Monetary policy of this organization
The FED must use different mechanisms to have a positive impact on the US and world economy, which is why it applies the following measures:
- Modification of discount rates. This resource is aimed at banking institutions belonging to the system that need short-term loans. The interest rate charged by the Federal Reserve is known as the discount rate and is above the average rate offered by commercial banks. This limits the amount of capital that entities can overdraw.
- Open market transactions. The way to put more money into circulation is by buying financial instruments. Once this capital is injected into the system by the FED, interest rates fall, allowing a greater exchange of spending and lending. The same thing happens the other way around: if this entity sells assets, interest increases and it is more difficult to have access to credit.
- Control of reserves. Since banks lend most of the money they have, the Fed has the power to instruct them to hold more money in reserve. This policy causes a rise in interest rates because entities have less money to give in the form of loans.
The Federal Reserve is the heart of the US financial system. Many of the instruments that we offer in Busconomico are subject to their policies. It will always be convenient for you to know a little more about these institutions when comparing banking products.
En español: Qué es la Reserva Federal y qué función tiene