Money and Banking, Ch 13

Who owns the federal reserve banks

When banks join the Federal Reserve System, they are required to buy stock in their District Bank. So, the member banks own the District Bank.

two views of what motivates the fed in using its authority

public interest view principal agent view

public interest view

theory of central bank decision making that holds that officials act in the bet interest of the public -The Fed seeks to achieve economic goals that are in the public interest (e.g., price stability, high employment and economic growth).

political business cycle

theory that policy makers will urge the Fed to lower interest rates to stimulate the economy prior to an election to earn favor with the incumbent party running for reelection.

European Central Bank

(ECB) is charged with conducting monetary policy for the 16 countries that participate in the European Monetary Union, and use the euro as their common currency. -ECB's organization is similar to that of the U.S. Fed. executive board has six members who work exclusively for the bank (8yr terms). -Board members are appointed by the heads of state and government, after consulting the European Parliament and the Governing Council of the ECB.

Federal Open market committee

-12 member federal reserve committee that directs OMO -FOMC consists of the chairman of the Board of Governors, the other Fed governors, the president of the Federal Reserve Bank of New York, and the presidents of four of the other 11 Federal Reserve Banks (on a rotating basis). -The chairman of the Board of Governors serves as chairman of the FOMC. Only five Federal Reserve bank presidents are voting members (Pres of NY Fed always) of the FOMC, but all 12 attend meetings

functions of the board of governors

-Administers monetary policy: determines reserve requirements and sets the discount rate charged on loans to banks -Influences the setting of guidelines for open market operations -informally influences national and international economic policy decisions -Advises the president and testifies before Congress on economic matters -Is responsible for some financial regulation, e.g., setting margin requirements and determining permissible activities for bank holding companies -Exercises administrative controls over individual Federal Reserve banks

Banking act of 1933/35

-Gave board of governors authority to set reserve requirements and the FOMC authority to direct OMO -centralized Board of Governors' control of the system, giving it a majority of votes on the FOMC - secretary of the treasury and comptroller of the currency were removed from Board of Governors, thereby increasing the Feds independence

functions of district banks

-Manage check clearing in the payments system -Manage currency in circulation by issuing new Federal Reserve notes and withdrawing damaged notes from circulation -Conduct discount lending by making and administering discount loans to banks within the district -Perform supervisory and regulatory functions such as examining state member banks and evaluating merger applications -Collecting and making available data on district business activities and publishing articles on monetary and banking topics -Serve on the FOMC, the Federal Reserve System's chief monetary policy body

functions of FOMC

-The FOMC sets a target for the federal funds rate by buying and selling Treasury securities to adjust the level of bank reserves. -The FOMC doesn't itself buy or sell securities for the Fed's account. Instead, it issues a directive to the Fed's trading desk at the New York Fed. -authority to direct OMO - carries out the directive by buying and selling Treasury securities with primary dealers (private financial firms that deal in these securities).

arguments against fed independence

-The importance of monetary policy for the -In a democracy, elected officials should make public policy. The public could hold elected officials responsible for perceived monetary policy problems. -If the central bank was controlled by elected officials, monetary policy could be coordinated and integrated with government taxing and spending policies. - Fed failed to assist the banking system during the economic contraction of the early 1930s. Also, Fed policies were too inflationary in the 1960s and 1970s. -Some analysts believe that the Fed ignored the housing market bubble in the early 2000s and then moved too slowly to contain the effects of the bubble burst in 2006.

Dodd Frank act

-aka Wall street reform and consumer protection act -Main provisions of the bill that affect the Fed: The Fed was made a member of the new Financial Stability Oversight Council, which was charged with preventing the failure of large financial firms. One member of the Board of Governors will coordinate the Fed's regulatory actions. The Government Accountability Office (GAO) was ordered to perform an audit of the Fed's emergency lending programs. Class A directors will no longer participate in elections of the bank presidents. The Fed was ordered to disclose the names of financial institutions to which it makes loans and with which it buys and sells securities. A new Consumer Financial Protection Bureau was established at the Fed to write rules concerning consumer protection from financial firms.

Board of governors

-governing board of the Fed, consisting of 7 members appointed by the Pres and confirmed by senate -The president chooses one member of the Board of Governors to serve as chairman. Chairmen serve four-year terms and may be reappointed

what constitutes meaningful central bank independence

-independent central bank improves the economy's performance by lowering inflation without raising output or employment fluctuations. -must conduct policy without direct interference from the govt - The most independent central banks had the lowest average rates of inflation during 70s and 80s. -The central bank also must be able to set goals for which it can be held accountable. The leading example of such a goal is a target for inflation. -Central banks in Canada, Finland, New Zealand, Sweden, ECB and the United Kingdom have official inflation targets

arguments for Fed independence

-monetary policy is too important and technical to be determined by politicians. -Because of the frequency of elections, politicians may be shortsighted, concerned with short-term benefits without regard for potential long-term costs. -The public may well prefer that the experts at the Fed, rather than politicians, make monetary policy decisions. -complete control of the Fed by elected officials increases the influence of political business cycles on the money supply.

principle agent view

-theory of central bank decision making that holds that officials max their personal well being rather than that of the general public -This view predicts that the Fed acts to increase its power, influence, and prestige (avoid conflicts with groups that would limit these) as an organization, -the Fed could manage monetary policy to assist the reelection efforts of presidential incumbents who are unlikely to limit its power. (leads to political business cycle) -suggests that the Fed would fight to maintain its autonomy- Fed has frequently resisted congressional attempts to control its budget.

Economic power within the Federal Reserve System is divided in 3 ways

1. Among bankers and business interests 2. Among states and regions 3. Between government and the private sector

FOMC members access data from 3 books

1. Green Book: national economic forecast for the next two years 2. Blue Book: projections for monetary aggregates 3. Beige Book: summaries of economic conditions in each district.

Four groups within the system

1. The Federal Reserve Banks 2. Private commercial member banks 3. The Board of Governors 4. The Federal Open Market Committee (FOMC)

examples of conflict bw the Fed and the treasury

Elected officials lack formal control of monetary policy, which has occasionally resulted in conflicts between the Fed and the president.

How fed isn't completely insulated from external pressure

The president can exercise control over the membership and may appoint a new chairman every four years. -The U.S. Constitution does not specifically mandate a central bank, so Congress can even abolish it entirely.

how fed is largely independent of external pressures

The structure of the Fed is designed to operate largely independently of external pressures. -Not only is the Fed exempt from having to ask Congress for the funds to operate, but it is also a profitable organization. -Most of the Fed's earnings come from interest on the securities it holds, interest on discount loans, and fees for check-clearing and other services

How Federal Reserve banks engage in monetary policy

directly ( by making discount loans) and indirectly (through membership on federal reserve committees)

Depository Institutions Deregulation and Monetary Control Act (DIDMCA)

required that all banks maintain reserve deposits with the Fed on the same terms. Gave member and nonmember banks equivalent access to discount loans and to payment system services. -effectively blurred the distinction bw member and nonmember banks and halted the decline in Fed membership