1. Economics Unit 4
Lesson 6
The Federal Reserve
and
Monetary Policy

2. Roles and responsibilities of the Federal Reserve System
The Federal Reserve Act of 1913 created the Federal Reserve System (the “FED”) to serve as the central bank of the United States.
Responsibilities of The FED:
Holds required reserves (“the bankers’ bank”)
Lends money to banks (“lender of last resort”)
Sets monetary policy
Regulates banking operations
Issue paper currency
Collect and clear checks

3. The Federal Reserve System
Member Banks

4. The Federal Reserve District Banks
Philadelphia | Richmond | San Francisco | St. Louis
                                                                         
The Federal Reserve District Banks
In which Federal Reserve district do you live?
In which city is your district’s Federal Reserve bank located?

5. Where did this bill originate?
This bill has a 12 on it indicating San Francisco. This is also denoted by the “L” on the seal. “L” is the 12th letter in the alphabet corresponding to the 12th district. Notice, too that there is an “L” in front of the bill’s serial number.

6. Where did this bill originate?
In this bill, the “E” before the 5 also indicates the District bank. The letter E is the fifth letter in the alphabet so both the letter and number give the answer to where it came from. If there is no letter on the seal (newer higher denominations), the letter can be found before the number (E5).

7. The Bankers’ Bank - Reserves
FED district banks monitor the required reserves of member banks
Member banks must have a certain amount of reserves on hand at the end of each day (required reserves)
Member banks can deposit excess reserves in the FED district banks

8. The Bankers’ Bank - Borrowing
If a bank needs to borrow money it can borrow it from:
Another bank OR
The FED district bank (“lender of last resort”)
The Discount Rate is the interest rate the FED charges for loans to its member banks.

9. Monetary Policy
Defined: The actions that the Federal Reserve take to influence the money supply to achieve their stated macroeconomic goals of price stability and full employment.
Ways the FED Influences the Money Supply:
Increase / Decrease the Reserve Requirement
Increase / Decrease the Discount Rate
Buy or Sell U.S. securities (Treasury notes, bills, bonds)

10. The Money Supply
Is a measure of the total amount of money in an economy
The FED influences the money supply to achieve macroeconomic goals of:
Price stability
Full employment
Economic growth
The FED’s legislative mandate is to work on price stability and full employment. Economic growth is a consequence of achieving the other two. However, the content expectations note all three economic goals so we have done so too in this PowerPoint for consistency.

11. The Money Supply and Interest Rates
The FED influences the amount of lending and borrowing by using its tools to influence the money supply
By influencing the money supply, the FED indirectly influences the interest rate
Think of the interest rate being equivalent of the price of a good or service.
Low interest rates= more borrowing (like low price= more buying)
High interest rates= less borrowing (like high price= less buying)
Interest rates reflect the interaction of lenders (who supply the funds) and borrowers (who demand the funds)
The FED uses reserve requirement, discount rate, and the buying and selling of securities to influence the money supply. For example, if the FED increases the reserve requirement, banks must have more money set aside (reserve requirement) and therefore have less to lend. Returning to our days of supply and demand, if there is less money available for borrowers, the price (interest rate) will be higher. Similarly, if the FED raises the discount rate, banks will be less likely to borrow from the FED because the costs are higher. Therefore, these banks will have less to lend the borrowers, ultimately driving up interest rates. Finally, if the FED wants banks to have higher interest rates, the Federal Open Market Committee (FOMC) can sell US securities. Those exchanges cause the FED to take money from banks, leaving less for borrowers. This will also raise interest rates.

12. Review: FED Sets Monetary Policy By:
Increasing/Decreasing the Reserve Requirement
Increasing/Decreasing the Discount Rate
Buying/Selling U.S. securities (Treasury Notes, Bills, Bonds) through FOMC (Federal Open Market Committee)

13. “Easy Money” Monetary Policy
Used when the FED wants to stimulate growth due to a contracting economy
Effects/Consequences
Increases the money supply,
Which leads to lower interest rates
Encouraging investment , spending, and employment

14. “Tight Money” Monetary Policy
Used when the FED wants to slow growth due to a rapid expansion that may cause inflation
Effects/Consequences
Decreases the money supply,
Which leads to higher interest rates
Discouraging investment and spending
Which can lead to lower employment