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Structure of Central and the Federal Reserve System Saud Saadoun Ziyad Ali.

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Presentation on theme: "Structure of Central and the Federal Reserve System Saud Saadoun Ziyad Ali."— Presentation transcript:

1 Structure of Central and the Federal Reserve System Saud Saadoun Ziyad Ali

2 The Price Stability Goal & the Nominal Anchor O Price Stability: O Low & Stable Inflation. O Most important goal of monetary policy. O Desirable because rising price level = creates uncertainty = hamper economic growth. O Inflation makes it difficult to plan for the future O Inflation can strain a countrys social fabric: O Conflict could result O Each group may compete with the other to make sure that income keeps up with rising level of price

3 The Role of a Nominal Anchor A central element in successful monetary policy is the use of a nominal anchor O Nominal Anchor: O A nominal variable such as the nominal exchange rate, wage and price controls, or the money supply, which ties down the price level to achieve price stability. LIMITS O Time-inconsistency problem: O Monetary policy conducted on a discretionary.

4 Other Goals Of Monetary Policy O High Employment: O High unemployment causes much human misery O The economy has both idle workers & idle resources resulting in loss of output O 2 reasons unemployment is not 0 at Full employment: O Frictional unemployment O Structural unemployment

5 Other Goals Of Monetary Policy O Economic growth: O Related to high employment goal O Policies that encourage firms to invest O Stated purpose of Supply-side economics O Intended to spur economic growth by providing tax incentives for businesses to invest in facilities & equipment and for tax payers to save more

6 Other Goals Of Monetary Policy O Stability of Financial markets O Interest-Rate Stability: O Fluctuation can create uncertainty in the economy O Central bank want to reduce upward movements in interest rates O Generate hostility toward central banks and lead to demands that their power be curtailed

7 Should price stability be the primary goal of Monetary policy O Price Stability is an important factor for long-run health of an economy O When this is Mandatory over other factors, its known as HIERARCHICAL MANDATE O Used by ECB, Bank of England, Bank of Canada, Reserve Bank of New Zealand to name a few

8 Should price stability be the primary goal of Monetary policy O When price stability is achieved along with high employment or stable long-term interest rates, its known as DUAL MANDATE O Used by the Fed

9 So which one is better? O No inconsistency in attaining price stability in long- run with full employment O Since low and stable inflation promotes economic growth, Central Bankers agree O Price Stability should be the primary goal, only in the long-run.

10 Origins of the federal reserve O American Resistance to the formation of a central bank O Fear of centralized power O American distrust of moneyed interest O Led to a fall of the experimental central banks O The first bank of united states in 1811 O The second bank of united states in 1836 O Led to a panic in the American financial markets O No lender available to provide needed reserves

11 O Led to the formation of the Federal Reserve Act of 1913 O Forming what is known today as the Federal Reserve System O 12 regional federal banks throughout US O Today, commonly known as the Fed O Not to be confused with the Feds (FBI)

12 Checks and Balances at the Fed

13 Federal Reserve System

14 Federal Reserve Districts 1. Boston 2. New York O Serves Puerto Rico and U.S Virgin Islands 3. Philadelphia 4. Cleveland 5. Richmond 6. Atlanta 7. Chicago 8. St. Louis 9. Minneapolis 10. Kansas City 11. Dallas 12. San Francisco O Seattle serves Alaska O San Francisco serves Hawaii

15 Federal Reserve System contd... O Part private-part public institutions owned by private regional banks O Which are members of the federal reserve system O Member banks purchase stock in their district federal reserve bank O A requirement for membership O Member banks elect 6 directors for each district bank, 3 or more by the Board of governers O These 9 directors then appoint the president

16 2011 Committee Members O Ben S. Bernanke, Board of Governors, Chairman Ben S. Bernanke O William C. Dudley, New York, Vice Chairman William C. Dudley O Elizabeth A. Duke, Board of Governors Elizabeth A. Duke O Charles L. Evans, Chicago Charles L. Evans O Richard W. Fisher, Dallas Richard W. Fisher O Narayana Kocherlakota, Minneapolis Narayana Kocherlakota O Charles I. Plosser, Philadelphia Charles I. Plosser O Sarah Bloom Raskin, Board of Governors Sarah Bloom Raskin O Daniel K. Tarullo, Board of Governors Daniel K. Tarullo O Janet L. Yellen, Board of Governors Janet L. Yellen

17 Functions of the Fed O Clear checks O Issue new currency O Withdraw damaged currency from circulation O Administer and make discount loans to banks in their districts O Evaluate proposed mergers and applications for banks to expand their activities

18 Functions of Fed O Act as liaisons between the business community and the Federal Reserve System O Examine bank holding companies and state- chartered member banks O Collect data on local business conditions O Use staffs of professional economists to research topics related to the conduct of monetary policy

19 Most important functions of the Fed O Maintenance of monetary and credit policy for sound business activities in O Agricultural O Industrial O Commercial O Lending to member banks O Open-market operations O Fixing reserve requirements O Establishing discount rates O Issuing regulations for the above

20 Member banks O All national banks are required to be members of the Fed O Commercial banks chartered by states are not required but may choose to be members O Depository Institutions Deregulation and Monetary Control Act of 1980 subjected all banks to the same reserve requirements as member banks and gave all banks access to Federal Reserve facilities

21 Members and Non-Members of the Fed National Bank State Bank (Member) State Bank (Non-Member)

22 Board of Governors of the Fed O 7-member Board of Governors Head-Quartered in Washington D.C. O Each governor is appointed by the US President and confirmed by the US Senate to a single (non-renewable) 14 year term O The seven governors must come from different districts to prevent regional dominance O The Chairman of the Board of Governors is selected from this group and subject to reappointment every four years by the U.S. President.

23 Federal Open Market Committee O Meets eight times a year O Consists of seven members of the Board of Governors, the president of the Federal Reserve Bank of New York and the presidents of four other Federal Reserve banks O Chairman of the Board of Governors is also chair of FOMC O Issues directives to the trading desk at the Federal Reserve Bank of New York

24 How Independent is the Fed O Instrument independent O Goal independent O Independent revenue O Structured by legislation from Congress and accountable for its actions O Presidential influence O Influence on Congress O Appoints members O Appoints chairman although terms are not concurrent

25 How Independent is the ECB? O The most independent central bank in the world O Eurosystem determines its own budget O Governments are not allowed to issue instructions O Prohibited from granting loans to national public sector entities

26 The Fed and the ECB: Similarities and Differences

27 Composition O Federal Reserve System (Fed) O 12 Central Banks O 7 Board of Governors based in Washington to look over the Fed System O European Central Bank (ECB) O 11 national central banks for each country O 6 Members of the Executive Board of the ECB based in Frankfurt to oversee the ECB

28 Size of the core institutions O Fed O 1700 employees O ECB O 600 employees

29 Appointments to the core institution O Fed O The 7 members of BoG appointed for 14-year terms by US President, approved by the Senate O The terms of appointment are staggered so that no President appoints more than two members of the Board O However, not all members serve the full 14 years of their term, so Presidents do sometimes appoint more members than initially intended

30 Appointments to the core institution O ECB O The 6 members of the Executive Board of the ECB are appointed by the Council of Europe for 7-year terms O Appointments subject to consultation with O European Commission O European Parliament O Executive Board of ECB O Unlike US senate, they do not have a right of veto over appointments

31 The Roles of the Fed and the ECB O Fed O Monetary Policy O Banker to the Government and Banks O ECB O Monetary Policy

32 Other Differences O ECB O National Central Banks control their own budgets and the budget of the ECB O Monetary operations are not centralized O Does not supervise and regulate financial institutions

33 Central Banks around the World O Bank of Canada O Founded in 1934 O Directors appointed by government for 3-year terms who choose a governor for a 7-year term O Governing council is made up of 4 deputy governers and the governor O Policymaking body like the FOMC

34 O Bank of England O Founded in 1694, one of the oldest O Bank Act of 1946 gave government statuory authority of over BoE O The Court is made up of the governer and 2 deputy governors appointed for 5-year terms O 16 non-executive directors for 3-year terms

35 O SAMA O Founded in 1952 O Governor: Muhammad Al-Jasser


37 Central Bank Behavior O Theory of bureaucratic behavior objective is to maximize its own welfare which is related to power and prestige O Fight vigorously to preserve autonomy O Avoid conflict with more powerful groups O Does not rule out altruism

38 Should Central Banks be Independent: Arguments For O The strongest argument for independence is that an independent central bank is insulated from the political pressures of re-election O Fiscal policy tends to follow a political business cycle inflationary during an election year, contractionary afterwards. O If central banks were subject to political approval, monetary policy would also follow this volatile pattern

39 O Another argument in favor of central bank independence is that elected politicians do not have the technical savvy to conduct monetary policy O Proponents of this view contrast the efficiency of a Federal Reserve run by bureaucrats with the bloated Federal budget (often in deficit) run by politicians O If the central bank was beholden to political interests, the federal government could amass large budget deficits then turn to the Fed to pay off its debts (essentially printing up more money for the government to pay off its debts) O Every time this has happened in history, massive inflation and financial crises have been the result.

40 Arguments Against O Is it democratic to have monetary policy for the entire nation in the hands of an elite group responsible to no one? O If the Fed performs badly, there are few ways to replace its members (unlike Congress where the people can vote out underperforming legislators)

41 O If policy is best conducted by technically savvy elites, then why arent all military decisions made by the Joint Chiefs of Staff, all tax policy decisions made by the IRS, all environmental regulations made by the EPA, etc.? O This criticism gains credence when you consider that the Fed has been a poor steward of the economy at times (failing to act early enough during the Great Depression, inflating the economy during the 1960s.) O Close coordination between monetary and fiscal policy would achieve the most effective results. The best way to coordinate both types of policies would be to have them controlled by the same group.

42 Central Bank Independence O Lets see the consequences of an Independent Fed

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