M & B CH 13

Board of Governors (purpose)

-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 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.

Member Banks

-Currently, only about 16% of state banks and about 38% of all 8039 banks are members of the Federal Reserve System -Historically, state banks often chose not to join because they saw membership as costly. Banks could also avoid the Fed's reserve requirements. -The opportunity cost of being a member of the Fed increased during the 1960s and 1970s as nominal interest rates rose, and fewer state banks elected to become or remain members. -The Fed argued that declining bank membership eroded its ability to control the money supply and urged Congress to compel all commercial banks to join the Federal Reserve System. -Congress has not yet legislated such a requirement, but DIDMCA of 1980 required that all banks maintain and reserve deposits with the Fed on the same terms.

DIDMCA of 1980

-Forced all banks to abide by Fed rules -Raised deposit insurance on US banks and credit unions -Allowed credit unions and savings and loans to offer checking accounts. -Allowed institutions to charge any loan interest rate they chose.

Public Interest View

-Is a theory of central bank decision making that holds that officials act in the best 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).

Board of Governors

-Is the governing board of the Federal Reserve System, consisting of seven members appointed by the president of the United States. -The 7 members are nominated by the President and confirmed by U.S. Senate, and serve 14 year, nonrenewable terms. -President chooses one member of the BoG to serve as chairman (serve 4 yr terms; may be reappointed) -Board members are professional economists from business, government, and academia.

The Federal Reserve 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. -Provide services to businesses, and the general public by collecting and making available data on district business activities and by publishing articles on monetary and banking topics written by professional economists and employed by the bank. -Serve on the Federal Open Market Committee, The Federal Reserve System's chief monetary policy body.

Creation of the Federal Reserve System:

-The bank of the United States was created to function as a central bank. Local banks resented the Bank's supervision of their operations. -Congress granted the Bank a 20 yr charter in 1791, but it ceased operations in 1811 due to a lack of support to renew its charter. -1816: Congress established the Second Bank of the United States; also failed. -The Federal Reserve Act of 1913 created the Federal Reserve System after severe nationwide financial panics in the late 1800's, which raised fears that the U.S. financial system was unstable without a central bank.

Who owns the Federal Reserve Banks?

-When banks join the Federal Reserve System, they are required to buy stock in their district bank; member banks own the District Bank. -To prevent one constituency from exploiting the central bank's power at the expense of another, Congress restricted the composition of the boards of directors of the District Banks.

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

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

The directors represent the interests of three groups:

1. Banks 2. Businesses 3. The general public

Four groups within the system were empowered to perform separate duties:

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

Federal Reserve Bank

A district bank of the Federal Reserve System that, among other activities, conducts discount lending.

State Banks

Commercial banks from state governments- were given the option to join.

All National Banks

Commercial banks with charters fro the federal government were required to join the system.

Principal-Agent View

Is a theory of central bank decision making that holds that officials maximize 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 as an organization, subject to constraints placed by principals (the president and Congress).

European Central bank

Is charged with conducting monetary policy for the 17 countries that participate in the European Monetary Union or Eurosystem, and use the euro as their common currency.

Dodd-Frank Act

Is legislation passed during 2010 that was intended to reform regulation of the financial system.

Federal Reserve System

Is the central bank of the United States

Arguments Against Fed independence

Monetary supply should be made by elected officials; want to give congress and the president more control over monetary policy.

Political Business Cycle

The Fed would try to lower interest rates to stimulate economic activity before an election to earn favor with the incumbent party running for reelection.

Argument for Fed Independence

The main argument for Fed independence is that monetary policy- which affects inflation, interest rates, exchange rates, and economic growth- is too important and technical to be determined by politicians. -complete control of the Fed elected officials increase the likelihood of political business cycle fluctuations in the money supply and interest rates.

Member banks elect...

Three bankers ( Class A directors) and three leaders in industry, commerce, and agriculture (Class B directors).

Federal Open Market Committee (FOMC)

is the 12-member Federal Reserve committee that directs open market operations.

The Fed's Board of Governors appoints...

three public interest directors (Class C directors)