BUS 110 Business Foundations Chapter 17 Supplemental Notes The US Financial System & The Federal Reserve

IMPACT of MONETARY & FISCAL POLICY 1. The Federal Reserve System is a central bank. Who owns the Federal Reserve? The Federal Reserve System is not "owned" by anyone and is not a private, profit-making institution. Instead, it is an independent entity within the government, having both public purposes and private aspects. As the nation's central bank, the Federal Reserve derives its authority from the U.S. Congress. It is considered an independent central bank because its decisions do not have to be ratified by the President or anyone else in the executive or legislative branch of government, it does not receive funding appropriated by Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms. However, the Federal Reserve is subject to oversight by Congress, which periodically reviews its activities and can alter its responsibilities by statute. Also, the Federal Reserve must work within the framework of the overall objectives of economic and financial policy established by the government. Therefore, the Federal Reserve can be more accurately described as "independent within the government." The twelve regional Federal Reserve Banks, which were established by Congress as the operating arms of the nation's central banking system, are organized much like private corporations--possibly leading to some confusion about "ownership." For example, the Reserve Banks issue shares of stock to member banks. However, owning Reserve Bank stock is quite different from owning stock in a private company. The Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the System. The stock may not be sold, traded, or pledged as security for a loan; dividends are, by law, 6 percent per year.
http://www.federalreserve.gov/generalinfo/faq/faqfrs.htm#5

2. Without regard to the Fed, banks willingly hold some reserves in order to meet the withdrawal needs of its depositors. How might a bank increase its reserves? Issue fewer loans to hold on to more money, also make fewer long-term investments; call in loans; increase deposits from customer (raise minimum requirements); sell investments. . During Hurricanes in FLA, banks needed to hold onto their reserves, since electronic systems were down and cash was critical. Why would a bank not want to make more loans? If uncertainty about the economy and future interest rates, banks would want to be more cautious about making loans. Also, if banks wants to increase their reserves. 3. The biggest and most important function of the Federal Reserve today is to control the nations money supply. Because of this, who is often considered the 2nd most powerful person in the US? The Chairman of the Federal Reserve Board of Governors Ben Bernanke

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BUS 110 Business Foundations Chapter 17 Supplemental Notes The US Financial System & The Federal Reserve

4. Briefly, what is Fiscal Policy? Government spending policies that influence macro-economic conditions. Tax and government budget policies. What the government brings in, and what they are spending. 5. Briefly, what is Monetary Policy? The actions of a central bank, currency board or other regulatory committee that determine the size and rate of growth of the money supply, which in turn effects interest rates. Control the flow of money. 6. The Federal Reserve uses the following tools to influence the money supply. The most frequently used tool of monetary policy is a. changes in the discount rate. b. changes in the reserve ratio. c. establishing selective credit controls d. conduct open market operations. Where Fed buys and sells securities What is the federal funds rate? The overnight lending rate member banks charge each other. Banks want to never have money sitting idle. Plus the banks may be getting down close to their reserve limit. 7. The most powerful tool to implement monetary policy is a. changes in the discount rate. b. changes in the reserve ratio. c. open market operations. d. establishing selective credit controls. Why do you think the most powerful tool is not also the most frequently used tool? Because this rate effects every bank. Just a small change in the reserve requirement has a very large impact on the money supply. 8. To slow the economy the Fed will try to lower the money supply and raise interest rates. 9. To grow the economy the Fed will try to raise the money supply and lower interest rates. 10. To combat (lower) inflation the Fed will try to lower the money supply and raise interest rates.
Result One Federal Reserve Tool Discount Rate Open Market Operations Reserve Requirement Selective Credit Controls
Grow Economy Expand the Money Supply Lower Interest Rate

Result Two
Slow Economy Contract the Money Supply Raise Interest Rates

Lower Buy Govt Securities Lower Fewer

Raise Sell Govt Securities Raise More

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