1. The Federal Reserve
and
Monetary Policy

5. The Federal Reserve System:
Establishment: Set up in 1913 as nation’s central bank.
Federal Reserve Building – Wash. D.C.

6. Structure:
1. Chairman: Serves a 4 year term as part of a 14 year term as a member of the Board of Governors.
Political Isolation:
If the chairman is removed, where do they go?
Why is this a good thing?

7. Paul Volcker –

8. Allan Greenspan

9. World’s Strongest Man ?

10. Ben Bernanke – 2005 to 2010

11. Janet Yellen – 2010 to present

12. Board of Governors:
Are 7 members appointed by the President and confirmed by the Senate. They serve 14 year terms.
Federal Open Market Committee:
12 people. 8 are permanent members (7 members of the Board of Governors and the President of the NY Federal Reserve District Office) and the 4 others rotate from the 11 other District Banks.

14. FOMC Meeting Room

15. Federal Reserve’s Missions:
1. Financial Services – Bank for Banks & U.S. Govt.

16. Consumer Financial Protection Bureau
2. Monetary Policy:
The manipulation of interest rates by manipulating the banking system, in order to affect change within the economy.
3. Supervisory & Regulatory Role:
Supervise State Chartered member banks and implement consumer protection laws.
Consumer Financial Protection Bureau
Traditionally, the Federal Reserve investigated bank activities in order to determine if they are behaving responsibly. The CFPB was created to take over that responsibility.

17. The Fractional Reserve System:
A primary function of the Federal Reserve is to limit the growth of the money supply.
How do they do it? (again, this is the part where the class asks the question)
A. Required Reserves.
- demand deposits that cannot be loaned out
by banks.
B. Excess Reserves.
- demand deposits that can be loaned out by
banks.
C. Actual Reserves.
- Required Reserves + Excess Reserves
D. The Reserve Requirement.
- The percentage of demand deposits banks may
not lend out.

18. Cash $ 50 Demand Deposits **** $ 500
Assets Liabilities
Cash $ Demand Deposits **** $ 500
Reserves at Fed * $ Time & Savings Deposits $ 500
Loans ** $ 600
Securities *** $ 150
Buildings/Equipment $ Net Worth $ 100
Total $1,100 Total $1,100
* Reserves at the Fed
represent cash also.
**** Demand Deposits Are checking
accounts, Time Deposits are CD’s,
and Net Worth = Owner’s original
investment and retained profits.
** Loans are assets because
They earn money for banks.
***Securities are Govt (or Treasury
Securities, not stocks and bonds.
U.S. banks cannot invest in the
Stock market.

19. The 3 Tools of Monetary Policy
1. Open Market Operations:
The buying and selling of bonds to subtly affect the money supply.
2. The Reserve Requirement:
The ratio or percentage of checkable deposits that banks are not allowed to lend to customers. A checkable deposits is money that bank customers keep at the bank (savings accounts, checking accounts, etc.)
3. The Discount Rate:
The interest rate that the Federal Reserve charges banks, if the banks want to borrow money from them. Banks almost always would rather borrow money from each other and NOT the Fed. It looks bad to ask them for money, and you risk your banking practices being questioned and /or an audit.

20. A. Reserve Requirement:
1. Increasing it reduces the money
supply, a contractionary action (fights inflation).
2. Reducing it increases the money
supply, an expansionary action (fights recession).
B. Discount Rate: (interest rate the Fed charges banks when they borrow from the Fed.)

21. C. Open Market Operations:
1. Selling Treasury Securities:
(government bills, notes, and bonds)
Selling them to the public decreases
the money supply, a contractionary action
(fights inflation).
2. Buying Treasury Securities:
(mainly bonds)
Buying them from the public increases
the money supply, an expansionary action
(fights recession).

22. Federal Funds Rate:
The interest rate charged by banks when they borrow from each other. It is not set by the Federal Reserve, but the Federal Reserve influences the Federal Funds Rate via Open Market Operations.
If the Fed wishes to decrease the Federal Funds Rate to fight recession, it would buy bonds from the public to expand the money supply. With more money on deposit, banks can loan out money to each other at lower interest rates.
If the Fed wishes to increase the Federal Funds Rate to fight inflation, it would sell bonds to the public in order to decrease the money supply. With less money on deposit, banks would only loan money out to each other at higher interest rates.

23. Expansionary Monetary Policy
During a Recession, the Federal Reserve will increase the Money Supply in order to decrease interest rates. If there is more money available, then the price (interest rates charged in lending) will go down. This makes it easier for businesses and people to borrow.
How Do They Do This?
Reserve Requirement – Lower the ratio
Discount Rate – Lower the interest rate
Open Market Operations – Buy Treasury Securities (Bonds) from the public.

24. Contractionary Policy
During Inflation, the Federal Reserve will reduce the money supply in order to increase interest rates. This makes it difficult for business and individuals to “borrow” and therefore will reduce AD and Price Levels (inflation).
How Do They Do This?
Reserve Requirement – Raise the ratio
Discount Rate – Raise the interest rate
Open Market Operations – Sell Treasury Securities (Bonds) to the public.