Importance of the Fed in the U.S. Economy Essay Example for Free

Importance of the Fed in the U.S. Economy Essay Apart from the investors and the consumers of the United States, the Federal Reserve happens to be the most important player in the United States economy. The central bank of the U. S. , the Federal Reserve (commonly referred to as the Fed) includes a â€Å"a federal government agency, the Board of Governors, in Washington, D. C. , and 12 regional Reserve Banks† in Atlanta, Boston, Chicago, Cleveland, Dallas, Kansas City, Minneapolis, New York, Philadelphia, Richmond, San Francisco, and St. Louis (â€Å"The Federal Reserve†). This government agency at the heart of the United States economy, controlled through federal information coming from various quarters, determines how investors and consumers would behave in the future. In so doing, the Fed plays a ‘weighty’ hand in the functioning of the U. S. economy. The Federal Reserve is responsible for overseeing the functioning of banks. The Congress, on the other hand, is responsible for overseeing the functioning of the Fed. Dr. Robert Keleher, the Chief Macroeconomist of the Joint Economic Committee, expresses the importance of these facts with an emphasis on the role of the Fed in the U. S. economy: As the Nations Central Bank, the Federal Reserve is granted special privileges and so assumes the responsibilities and characteristics of such a bank. It monopolizes the issuance of paper money, serves as banker for both the government and commercial banks, and acts as lender of last resort. The latter, in turn, calls for bank regulatory responsibilities. Since Federal Reserve operations work to centralize reserves (Federal Reserve notes and deposits form a large portion of bank reserves), they entail responsibility for reserve management and hence monetary policy. Two critically important macroeconomic functions of the Central Bank, therefore, are the maintenance and achievement of price and financial system stability (i. e. , stable monetary policy and the provision of lender-of-last-resort services). †¦The importance of congressional oversight of the Federal Reserve cannot be overemphasized. These functions are important, for example, because they imply that the Federal Reserve controls and hence is responsible for the management of total spending or aggregate demand as well as inflation. In carrying out its monetary policy management (via manipulating reserves), the Federal Reserve influences interest rates—especially short-term rates—as well as foreign exchange rates and other financial market prices. And in times of financial crisis, the Federal Reserves lender-of-last-resort function stabilizes the entire financial system†¦. (â€Å"The Importance,† 1997). The Fed has the power to change the money supply in the United States (â€Å"Monetary Policy†). An increase in money supply tends to lower interest rates, which in turn may increase investment around the nation in addition to consumer spending. A decrease in the supply of money will raise interest rates. Given that raised rates of interest are expected to reduce consumer spending as well as capital investment, thereby reducing demand as well as prices, the Federal Reserve can hope to control inflation by decreasing money supply. The Federal Reserve uses interest rates as a tool to influence economic activity. The funds rate, which is the interest that banks charge each other on overnight loans, happens to be the Federal Reserve’s primary tool of monetary policy, seeing that this rate affects several other interests rates charged to consumers and to businesses (Associated Press, 2006). The interest rate influences money supply and various components of the U. S. economy. Most importantly, it is this tool of monetary policy that helps to determine the financial health of the people of America with respect to the state of the economy. How much money common people and businesses would be able to spend in a given time is, in fact, the responsibility of the Federal Reserve to adjust and readjust through its monetary policy. The amount of spending in the economy is closely related to the standard of living of the Americans. Hence, the Fed’s role of making monetary policy work for the United States is oft understood to be the most crucial one. The second most important role of the Fed is thought to be â€Å"Banking Supervision. † Seeing as a sound and strong financial system is essential to the â€Å"health of the economy and the effectiveness of monetary policy,† the central bank of the United States supervises as well as regulates financial institutions throughout the nation. By so doing, the bank of the banks is in a better position to make sound policy decisions (â€Å"Banking Supervision†). What is more, by ensuring that the investment and commercial banks around the nation are engaging in sound business practices, the Federal Reserve guarantees the investors and consumers of America that their moneys and economic interests would remain well guarded. The third function of the Federal Reserve is connected to the second, which is connected to the first. As â€Å"a bank for banks† the Fed not only supervises the latter, but also provides essential financial services to â€Å"depository institutions,† such as â€Å"banks, credit unions, and savings and loans. † Just as the commercial banks handle transactions among their customers, in addition to the transactions of their customers with the customers of other banks; the Federal Reserve handles transactions among banks. These financial services provided by the central bank include the electronic transfer of funds between banks; the collection of checks at various depository institutions; and the distribution as well as receiving of U. S. dollars and cents among and from the depository institutions, which require freshly minted money on a regular basis (â€Å"Financial Services†). The Fed also is a bank for the United States government. Referred to as the federal government’s â€Å"fiscal agent,† the central bank provides financial services to the government’s Department of Treasury. In addition, the â€Å"bank for the government† sells and redeems government securities, for example, â€Å"Saving Bonds and Treasury Bills† (â€Å"Financial Services†). It is at this point that the third most important function of the Federal Reserve joins with the first. By buying and selling government securities, the Federal Reserve changes the money supply: the selling of government securities decreases the money supply, and the buying of such securities increases the supply of money in the U. S. economy (â€Å"FOMC†). Whether the Federal Reserve must buy or sell government securities at a given time is determined by the Federal Open Market Committee (FOMC), which is a fundamental â€Å"branch of the Federal Reserves Board† and â€Å"composed of the Board of Governors†¦and five reserve-bank presidents. † The FOMC is also responsible for making decisions about the direction that the interest rate should take. While the investors may only speculate about the pertinent monetary policy decisions of the FOMC, the Americans may continue to enjoy sound sleep at night with the knowledge that the Federal Reserve is a highly responsible agent of the government which has accompanied the economy through periods of very high growth, especially in the most recent decades (â€Å"FOMC†). Given the above facts about the central bank of the United States, it would not be an exaggeration to claim that the Federal Reserve is the banker of each American. While setting the monetary policy and performing its other functions, the Federal Reserve has the best interests of the Americans and the American economy at heart. Whether it is unemployment rate that must be fixed, or the inflation rate that must be adjusted to account for technological improvements; the Fed is in charge of correcting the errors. The changes facing the economy at any time are varied. The Federal Reserve must sift through the information about the economy that it is presented with, analyze the information with an emphasis on the interest of the Americans, and then make sound policy decisions that would impact the future of the economy. During low growth periods, the Federal Reserve is looked up to for massive corrections in the system, generally carried out through appropriate monetary policy decisions. The American public has high expectations attached to the Fed in times of economic hardship. In periods of high growth, on the other hand, the Fed continues to oversee the functioning of the economy to check for the menace of inflation, etc. Thus, this ‘bank of America’ is constantly overseeing the economy and overruling bad choices in the employment of the resources available to the U. S. What is more, the United States economy at present cannot envision a time when it would be no more affiliated with the Fed. Rather, the Federal Reserve is indispensable in the U. S. economic system. References Associated Press. (2006, May 31). Federal Reserve Minutes Show Uncertainty Over Future Interest Rate Hikes. Fox News. Available 20 February 2007, from http://www. foxnews. com/story/0,2933,197674,00. html. Banking Supervision. Fed 101. Available 29 May 2007, from http://www. federalreserveeducation. org/fed101/supervision/. FOMC Federal Open Market Committee. Investopedia. Available 29 May 2007, from http://www. investopedia. com/terms/f/fomc. asp. Financial Services. Fed 101. Available 29 May 2007, from http://www. federalreserveeducation. org/fed101/services/. Monetary Policy. Fed 101. Available 29 May 2007, from http://www. federalreserveeducation. org/fed101/policy/. The Federal Reserve System Online. Available 29 May 2007, from http://www. federalreserveonline. org/. The Importance of the Federal Reserve. (1997, March). Joint Economic Committee Report. Available 29 May 2007, from http://www. house. gov/jec/fed/fed/fed-impt. pdf.