The FED Tools of the Fed Outline

Birth of a FED 1.Bank Panic of Federal Reserve Act of 1913 a. Our Nation’s Central Bank

The Federal Reserve System I.Goals of the FED a. Pursue policies that effect the cost and availability of credit (set the interest rate for money for banks loan) b. Manage the nations money supply and disperse money into banking system Elastic currency Monetary Policy

Federal Reserve System II.Structure of the FED A.Board of Governors i. 7 ppl – 14 yr, terms ii. Appointed by the president & confirmed by the Senate iii. Chairman: Ben Bernake (2006) iv. Policy makers of the system (Alan Greenspan )

Ben S. Bernanke was sworn-in on June 21, 2005 as Chairman of the President's Council of Economic Advisers. Prior to his appointment to the Council, Dr. Bernanke served as a member of the Board of Governors of the Federal Reserve System. Dr. Bernanke was born on December 13, 1953, in Augusta, Georgia. He received a B.A. in economics in 1975 from Harvard University (summa cum laude) and a Ph.D. in economics in 1979 from the Massachusetts Institute of Technology. Before becoming a member of the Board, Dr. Bernanke was the Howard Harrison and Gabrielle Snyder Beck Professor of Economics and Public Affairs and Chair of the Economics Department at Princeton University ( ). Dr. Bernanke had served as a Professor of Economics and Public Affairs at Princeton since 1985.

Dr. Bernanke has published many articles on a wide variety of economic issues, including monetary policy and macroeconomics, and he is the author of several scholarly books and two textbooks. He has held a Guggenheim Fellowship and a Sloan Fellowship, and he is a Fellow of the Econometric Society and of the American Academy of Arts and Sciences. Dr. Bernanke served as the Director of the Monetary Economics Program of the National Bureau of Economic Research (NBER) and as a member of the NBER's Business Cycle Dating Committee. Dr. Bernanke's work with civic and professional groups includes having served two terms as a member of the Montgomery Township (N.J.) Board of Education.

b.The Federal Open Market Committee i. 12 members ii. Buy and sell Govt securities

c. The 12 Fed Banks

Fed Bank in Houston

C. The Federal Reserve Banks 1. Dallas District (where we are) 2. Regulate Commercial Banks 3. Implement FED decisions

III.Services of the FED (how they assist commercial banks and the government) a. Bank for banks b. Bank for the Govt c. Distribute paper currency d. Clear checks

IV. Tools of the FED How does the FED manage the money supply?

Tools of the FED The most important function of the FED is to control the Nation’s money supply. They have three tools to do this job… –1. Reserve Requirements –2. Discount Rate –3. Open Market Operations

Tool # 1  1. The percentage of all deposits a bank must keep on reserve is called the Reserve Requirement  A. If the FED raises the reserve requirement the size of the loans a bank can make will _________. (% or amount of loans)  B. This action will tend to _____ the Nation’s money supply.  C. If the FED lowers the RR, banks can ____ the size of loans they make because they can keep _______ money on Reserve. Less

D. So, if the FED wants to increase the money supply they should ____ the reserve requirement E. To decrease the money supply they would ___ the Reserve Requirement.

II. The Discount Rate II.The Discount Rate is the interest rate that the FED charges when a bank borrows $ from the FED (Why would banks borrow from the FED?) A.To pay back loans borrowed from other banks B.If member banks (your bank and mine) borrow from the FED then their reserves will go ____. C.So, if the FED wants to discourage banks from borrowing they would ___ the Discount rate.

D. The raising of the Discount Rate is a signal from the FED that they are pursuing a ______ _______ ______. E. In other words, they are trying to ____ the money supply. F. If the FED wants to make borrowing more attractive, they will ____ the Discount Rate TightMoneyPolicy

G. The lowering of the Discount Rate is a signal the FED is pursuing a _____ _____ ______. H. So, to increase the money supply the FED would ____ the Discount Rate. I. To decrease the money supply the Fed would ____ the Discount Rate. LooseMoney Policy

III. Open Market Operations  Open Market Operations is the _____ and _____ of Government securities in the Open Market.  A. If the Fed sells securities, the reserves of member banks will go ____. (shrinks money supply – takes money out of the economy)  B. So, when the FED sells bonds the FED takes _____ out of circulation.  C. If the FED buys securities (bonds), the reserves of member banks will go ____.  D. As a result, the money supply would go _____. Banks will be able to make more ______. BuyingSelling $ Loans

IV. What the Fed does with these three tools is called Monetary policy V. Summary A. If the economy is in a recession, the appropriate monetary policy would be to _____ the nation’s money supply. They could accomplish that by: –i–i. ______ ________ _______ –i–ii. ______ ________ ________ –i–iii. ________ ________ loweringreserverequirements LoweringDiscountRate Buyingsecurities

B. If the economy is experiencing inflation (too much ____ ___ ____) the appropriate monetary policy would be to: i. _______ ________ _______ ii. ________ _______ _____ iii. _______ __________ IncreaseReserve Requirements IncreaseDiscount Money in System Rate Sellsecurities “Too much money chasing too few goods”

Let’s Review If the FED sells securities, bank reserves_________, interest rates ______ and the money supply ___________. decreaseincrease decreases

What does all this mean? 1.To fight a recession, the FED should _________ the money supply 2.In other words, expansionary monetary policy 3.And they can accomplish that by 1._____ reserve requirement 2._____ the discount rate 3._____ securities lower Buy Increase

To fight “too much money chasing too few goods” (inflation) the FED should ______the money supply. 1.Contractionary monetary policy 1. _________ reserve requirement 2. ___________ discount rate 3. _______ securities Increase Sell Decrease

Open Market Operations and the Fed Funds Rate = overnight lending rate to other banks