1. Structures of Central Banks and the Federal Reserve System
The Economics of Money, Banking, and Financial Markets Mishkin, 7th ed. Chapter 14
Structures of Central Banks and the Federal Reserve System

2. Origins of the Fed Created in response to series of bank panics
12 Federal Reserve Districts – compromise between those who favored and those who opposed a central bank

3. Formal Structure of the Fed

4. Federal Reserve Districts

5. Federal Reserve District Banks
One main bank in each district
Federal Reserve Bank of NY – holds 25% of Fed’s assets
Federal Reserve Banks of New York, Chicago, and San Francisco hold over 50% of the Fed’s assets
Federal Reserve District Bank Directors:
3 Class A – professional bankers (elected by member banks)
3 Class B – leaders of local industry, labor, agriculture, or the consumer sector in the region (elected by member banks)
3 Class C – public interest – appointed by the Board of Governors

6. Functions of the Federal Reserve District Banks
Check clearing
Issuing new currency
Withdrawing damaged currency from circulation
Administer and make discount loans
Evaluate proposed mergers and applications for banks to expand their activities
Act as liaisons between business community and the Fed
Collect data on business conditions
Conduct economic research

7. Federal Reserve District Banks and monetary policy
“establish” discount rate in their region (role taken over by the Board of Governors)
Decide which banks can receive discount loans
One banker from each district is selected for membership on the Federal Advisory Council.
FRB of New York and other four of the rest 11 FRB presidents have a vote on the Federal Open Market Committee

8. Membership in the Fed All national banks must be members
Depository Institutions Deregulation and Monetary Control Act of 1980
by 1987, all banks are required to keep some reserves in the Fed.
All banks have access to discount loans and Fed check clearing

9. Board of Governors 7 members, 14-year “nonrenewable” term. Functions:
Set reserve requirement (and margin requirements)
Effectively sets the discount rate
Participates in setting open-market operations (all members are on the Federal Open-Market Committee)
Supervision and regulation of banking system

10. Federal Open Market Committee
12 members:
7 Board of Governors
5 District Bank Presidents (always including the NY Fed President)
Typically meets 8 times a year (every 6 weeks)
Establishes open market policy

11. Evolution of Fed power
Over time, the power to conduct monetary policy has been centralized in the Board of Governors.

12. Informal Structure of the Fed

13. Central Bank Independence
Instrument independence – ability to determine the instruments of monetary policy
Goal Independence – ability to set the goals
Does the Fed have both?
Why might independence be desirable?
Elected authorities bias toward inflationary policies?
Is the Fed autonomous?
Term structure of the board
Independent source of funds
Who granted this autonomy?
Factors making Fed independent
Members of Board have long terms
Fed is financially independent: This is most important
Factors making Fed dependent
Congress can amend Fed legislation
President appoints Chairmen and Board members and can influence legislation
Overall: Fed is quite independent

14. Other central banks Other Central Banks
Bank of England least independent: Govt. makes policy decisions
European Central Bank: most independent—price stability primary goal
Bank of Canada and Japan: fair degree of independence, but not all on paper
Trend to greater independence: New Zealand, European nations
Bank of Canada – in 1967, monetary power is officially given to the government, yet the Bank still essentially controls the money supply (the minister of finance may issue a directive on monetary policy, but none has yet been issued)
Bank of England – least independent until In 1997, the Bank was given the power to set interest rates. The government may overrule the Bank “under extreme conditions” and “for a limited period.”

15. Other central banks (cont.)
Bank of Japan – Independent since 1998 – goal of price stability
European Central Bank
a role similar to that of the Fed. Central Banks of each member country play a role similar to that of the Fed District Banks
most independent central bank in the world

16. Explaining Central Bank Behavior
Public interest view
Theory of bureaucratic behavior
Is an example of principal-agent problem
Bureaucracy often acts in own interest
Protection of autonomy
Avoid conflict with Congress and the President

17. Explaining Central Bank Behavior
Implications for Central Banks:
Act to preserve independence
Try to avoid controversy: often plays games
Seek additional power over banks

18. Should Fed be Independent?
Case for Independence
Independent Fed likely has longer-run objectives, politicians don't: evidence is independence produces better policy outcomes throughout the whole
Avoids political business cycle
Less likely deficits will be inflationary
Inflationary bias due to political pressure
Places monetary control under the hands of “experts”
Resists pressure from Treasury
Case against Independence
Fed may not be accountable
Hinders coordination of monetary and fiscal policy
Not democratic
Lack of accountability to the public
History of poor performance (until recent decades)