1. The Federal Reserve System “the Fed”

2. 12 Federal Reserve Districts Commercial banks’ banker

3. Board of Governors

4. Fed Reserve Building

5. Board of Governors Purpose: To oversee all Fed Reserve operations 7 members –appointed by president –approved by Senate –14 yr. term –Former chairmen Ben Bernanke   Alan Greenspan

6. Federal Open Market Committee (FOMC) 12 members –7 from Board of Governors (all 7 members) –5 Chairpersons from regional Fed banks. –Chairperson of NY Fed ALWAYS sits on the FOMC. The other four spots are rotated among the other regional Fed banks. –PURPOSE OF FOMC: To control the money supply (ie. to set monetary policy) Janet Yellen, current Fed chairperson

7. 6 Major Jobs of the Fed Control the money supply (set monetary policy) Serve as “lender of last resort,” for example during financial crises. Supervise member banks (check reserve requirements, capital requirements, audit for bad loans and investments, etc.) Hold bank reserves. Provide check-clearing services Supply the economy with paper money and coins (The U.S. Mint creates/prints physical money! However the Federal Reserve transfers coins and bills to banks, and destroys old dollar bills).

8. 1.Supply the economy with paper money and coins. “U.S. Mint” Bureau of Engraving and Printing

10. 2. Hold bank reserves reserves at the Fed + vault cash =total reserves

11. 3.Provide check-clearing services Facilitates check-cashing between commercial banks. –for example, Wells-Fargo and Bank of America

12. Between banks, cities EXAMPLE:EXAMPLE: Pete pays Sue for a used car. He gives her a check for $2,000.Pete pays Sue for a used car. He gives her a check for $2,000. Sue deposits the check in her bank and is credited with $2,000 in her account.Sue deposits the check in her bank and is credited with $2,000 in her account. Sue’s bank sends the check to FRB who increases the bank’s reserve account by $2,000.Sue’s bank sends the check to FRB who increases the bank’s reserve account by $2,000. FRB decreases Pete’s bank’s reserve by $2,000 FRB decreases Pete’s bank’s reserve by $2,000 FRB notifies Pete’s bank to reduce Pete’s account by $2,000.FRB notifies Pete’s bank to reduce Pete’s account by $2,000.

13. 4. Supervise member banks 5. Serve as lender of last resort Fed may “audit” a bank –check that the loans it made are good –be sure it has followed banking rules –verify the accuracy of its accounting. Fed can lend funds to struggling banks. –Glass-Steagall Act (1933) establishes FDIC

14. 6. Control the money supply. I kept the most important for last! Tools for changing the money supply –Reserve Requirement –Discount Rate –Open Market Operations Why is changing the money supply important? TO CONTROL INFLATION and/or UNEMPLOYMENT Monetary Policy

15. Section Review Answers 11.1 page 292 1. Federal Open Market committee: major decision maker in the FRB. 2. Federal Reserve System : US Central Bank 3. Board of Governor’s : controls and coordinates fed activities (7 members) 4. Reserve account: funds required to be held in the FRB

16. Review Describe the structure of the Federal Reserve System. 7 member Board of Governors appointed by president, ratified by Senate appointed by president, ratified by Senate 14 year term, chairman has 4-year term 14 year term, chairman has 4-year term 12 districts In what year was it founded? 1913

17. Review 1.6 major jobs? Supply the economy with paper money and coins (U.S. Mint prints them)Supply the economy with paper money and coins (U.S. Mint prints them) Hold bank reserves.Hold bank reserves. Provide check-clearing servicesProvide check-clearing services Supervise member banksSupervise member banks Serve as lender of last resort.Serve as lender of last resort. Control the money supplyControl the money supply

18. Review Why would a bank choose to join the Federal Reserve System? The Fed helps maintain bank stabilityThe Fed helps maintain bank stability Consumers want their accounts to be covered by FDICConsumers want their accounts to be covered by FDIC

19. Review Describe the check-clearing process. Pete pays Sue for a used car. He gives her a check for $2,000.Pete pays Sue for a used car. He gives her a check for $2,000. Sue deposits the check in her bank and is credited with $2,000 in her account.Sue deposits the check in her bank and is credited with $2,000 in her account. Sue’s bank sends the check to FRB who increases the bank’s reserve account by $2,000.Sue’s bank sends the check to FRB who increases the bank’s reserve account by $2,000. FRB decreases Pete’s bank’s reserve by $2,000 FRB decreases Pete’s bank’s reserve by $2,000 FRB notifies Pete’s bank to reduce Pete’s account by $2,000.FRB notifies Pete’s bank to reduce Pete’s account by $2,000.

20. 11.3 “Fed” Tools for Changing the Money Supply

21. These tools are used to implement MONETARYPOLICY Monetary policy has two basic goals: to promote "maximum" sustainable output and employment to promote "stable" prices

22. Why would the Fed want to change the money supply? INFLATIONSlow INFLATION (too much money chasing too few goods)(too much money chasing too few goods) UNEMPLOYMENTLower UNEMPLOYMENT (too many people out of work)(too many people out of work) Promote Growth in the Economy Slow down an “over-heated” economy –Adjusting for the normal business cycle

23. Typical Business Cycle

24. Long Term Growth

26. Monetary Policy Fed is responsible for maintaining price stability and employment “Expansionary Monetary Policy” –goal is to increase money supply to reduce unemployment to avoid deflation “Contractionary Monetary Policy” –goal is to decrease the money supply to reduce inflation To prevent “bubbles”

27. 3 Important Tools 1.Changing the Reserve Requirement 2.Changing the Discount Rate 3.Conducting “Open Market Operations” The three tools are interactive

28. 1. Reserve Requirement currently: 10% Raise the reserve requirementLessRaise the reserve requirement = Less money in circulation –slows the economy eventually brings price stability (lowers inflation) Lower the reserve requirementMoreLower the reserve requirement = More money in circulation –More money to buy goods and services requiring more jobs to produce them (lowers unemployment)

29. 2. Changing the discount rate discount rate = interest rate on fed to bank loans (set by Fed) federal funds rate = interest rate on bank to bank loans (set by fed funds market) Raising the interest rate influences how much banks will decide to borrow from the fed (who will lend them money “out of thin air”, increasing money supply) Keeping the discount rate low encourages borrowing

30. federal funds rate=interest rate on bank to bank loans discount rate=interest rate on fed to bank loans When the federal funds rate is lower than the discount rate, who would you borrow from? When the discount rate is lower than the federal funds rate, who would you borrow from? The Fed can encourage borrowing by keeping rates lowThe Fed can encourage borrowing by keeping rates low Another bank The Fed

31. currently: discount rate:.75% federal funds rate:.25% currently: discount rate:.75% federal funds rate:.25% 2006 discount rate - 6.25% federal funds rate - 5.25% What is the Fed trying to do?

32. Federal Open Market Committee (FOMC) controls Open Market Operationscontrols Open Market Operations –Open Market Purchases buys government securities = increases money supply –Open Market Sales sells government securities = reduces the money supply 1

33. Important Background Information U.S. Department of the Treasury –the agency of government responsible for paying for government and its actions collects taxes borrows money if needed –It borrows from the public by offering securities »securities: promises to repay with interest at some future time

34. Open Market Purchases Fed offers to buy your government security.Fed offers to buy your government security. –“Thin air” money is given to you. –Money supply increases

35. Open Market Sales Fed offers to sell government securities it holds.Fed offers to sell government securities it holds. –You pay for it. –Your money “disappears” into the Fed –Decreases the money supply.

36. Review What are three ways the Fed can control the money supply? Reserve Requirement Discount Rate Open Market Operations

37. Review Why does the Fed want to control the money supply? Monetary Policy: maintain employment control inflation

38. Review What is the “reserve requirement”? –If the Fed wants to reduce the money supply, what does it do to the reserve requirement? What is the discount rate? –What is the federal funds rate? –If the Fed wants to increase the money supply, what does it do to the discount rate?

39. Review What is the difference between an Open Market Sale and an Open Market Purchase? action? goal?