The Federal Reserve which is also known as the Federal Reserve System or more commonly the Fed, is America’s central banking system that was created in 1913 following the enactment of the Federal Reserve Act. The Federal Reserve was created to provide a more stable and secure banking system in the U.S. as the regional banks and financial institutions were very much disorganized and had lost public confidence. The main goal of the Fed is to create a stable economy that is characterized by high employment and production, steady growth and stable prices. The structure of the Federal Reserve changed remarkably over time particularly during the Great Depression of the 1930s. Today its structure is made up of the Board of Governors of the Federal Reserve Board who are appointed by the president, the 12 Federal Reserve Banks, the Federal Open market Committee, privately owned U.S. banks and several advisory councils.
The 12 Federal Reserve Banks are located in the following regions; New York, Chicago, Atlanta, Boston, Kansas City, San Francisco, Cleveland, St. Louis, Dallas, Richmond, Minneapolis and Philadelphia. There are three primary roles of the 12 Federal Banks are to establish and implement the nations monetary policy, providing a variety of financial services and supervising banking and bank holding companies. Coming up with a sound monetary policy ensures price stability by determining the amount of money in circulation through the supply of money & credit and to prevent either inflation or a recession. The Federal Reserve is referred to as the bankers of banks because it mainly runs the payment system by facilitating the transfer of funds and payments from one bank to another through cash, cheques and electronic transfer. It acts as the bank for the U.S., it maintains the accounts of the treasury, facilitates collection of federal taxes. The Fed also sets the discount rates, it distributes money to other banks when demand is high, it ensures that money in circulation in genuine and in good condition. It processes cheques for member banks as well as providing wire transfer services to them, last but not least through the regional reserve banks it acts as a clearing house for recurring payments like social securities and payroll.
The Federal Open Market Committee makes decisions that influence the financial markets in the U.S. and globally. These decisions affect the amount of money and credit that is available for the economy of the United States. The main goal of the monetary policy is to stabilize the supply of money and credit which so as to avert the extremes of money supply in terms of recession or inflation (Mullins, 2009, p. 81). As a measure of controlling the supply of money in the economy, the Fed buys and sells government securities in form of treasury bills and bonds. These government securities represent or act as investments in the United States government. The Federal Open Market Committee sets guidelines on the acquisition and sale of government securities on the open market.
When there is a lot of money in circulation, the Fed sells government securities to get the excess money out of circulation thereby stabilizing the economy and preventing inflation. The opposite is true in that when the Federal Reserve determines that there is too little money in circulation, the Fed buys securities thus putting money in circulation to stabilize the economy and avoid a recession. Monitoring the economy through the amount of money in circulation is a day to day activity that runs round the clock to ensure that there is just about the right amount of money in circulation. Traders at the Federal Reserve ensure this by trading in government securities in the open market (Allan, 2004, p. 11). The outcome of this is a stable economy that has stable prices, employment and steady production all which lead to the growth of the economy.
In its supervisory role to the banks operating in the United States, the Fed has put in place rules and regulations that determine how business is going to be carried out. The Fed carries out routine monitoring of banks & bank holding companies and foreign banks that operate in the country, both online and on site to ensure by looking at the financial records of the banks, potential risks of their investments and adherence to the Feds rules and regulations. All these are aimed at ensuring the safety and soundness of banks which promotes public confidence in banks.
The Federal Reserve might want to decrease the amount of money in supply at the moment to reduce or avoid inflation and its effects. This can be achieved by the Fed selling government securities to get excess money out of circulation and maintain economic stability.
Allan, M. (2004). A History of the Federal Reserve. Illinois: University of Chicago Press.
Mullins, C. (2009). The Secrets of the Federal Reserve. New York : Bridger House Publishers.