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Federal Reserve and its role in the economy Essay


Federal Reserve informally called fed is an independent organization established by the government of United States of America through Federal Reserve act in [1913], to act as the Central Bank of the America (Flaherty 40).

The Federal Reserve was formed at a time when there were numerous problems that were associated with the banking sector that made the Americans’ lose faith with the banking system. Just to mention a few; before 1913, there were more than 30, 0000 currencies, banks had problems in moderating these currencies since there was no unifying value currency.

The existing banks at times were not able to meet their customers’ withdrawals rate due to fund deficit that was experienced frequently. These problems led to frequent collapse of the banks hence having negative impact on the economy of the United State of America.

Generally, the main reasons why the Federal Reserve was established was because, they wanted to reorganize the banking system and come up with more stable and standard monetary system that could be used in the united state of America. Federal Reserve was also formed to control both the prices of commodities and currency flow in the market. So from all this reasons we can see that it played a major role in the inflation and recession prevention (Wueschner 23).

Federal Reserve is a non-profit making entity that performs both public and private functions .However, any profit generated by the Central Bank after the payment of all employees and giving 6% of divided owned by the Capital Investment to the members’ banks. The remaining money is plowed to the government treasury. For example, in 2009, Federal Reserve generated a profit of 45 billion dollars that was plowed into the treasury (Colin 1).

There are seven members who make up the Board of Governors in the Federal Reserve’s (Flaherty 42).They are usually appointed by the President to run an independent Federal Government Agency which is based in Washington D.C. and serving a non-renewable period of 14 years. Their main functions are to set up Monetary Policy and managing the government money.

It has also 12 Regional Reserve Banks which does the function of implementing policies and managing the financial institutions with the help of their own directors that is composed of the bankers, general public and business people (Epstein & Thomas 45). The directors run a term of five years.

Regional Reserve Banks act as intermediate between the banks and the Federal Reserve as they offer banking services like check processing, Federal wire, U.S treasury banking and many others. They also ensure appropriate supervision and regulation of all the bank operations. Lastly, they provide discount window by giving temporary financial assistance against collateral to depository institutions.

It has Federal open committee which is given the mandate to control the operations at the U.S.A open market (Epstein & Thomas 47). It is headed by the New York Federal Reserve bank’s president who works together with the seven governors and four reserve bank managers who rotate in shift every year (Flaherty 43). Federal Reserve has also private U.S.A banks who become members by subscribing a certain amount to non transferable stock to their regional Federal Reserve Banks and lastly advisory councils.

Federal Reserve is a non-profit making organization that supports itself through the various activities that it is involved in. It gets interest from government securities through open market operations. It also gets interest and profit from the foreign currency exchange investment. Federal Reserve Bank gets interest from the discount rate they put on the loans given to the depository intuition (Patrick 46).

The role of the Federal reserves in economy can be clearly depicted from the functions it performs. Federal Reserve is the monetary policy maker that ensures that the economic recession and inflation is controlled, it ensures that the banking system of payment within the United State of America is stable and can be trusted and moreover being the government central bank, the Federal Reserve ensures there is effective services offered to the state and the general public. Let’s look at how the Federal Reserve performs its functions that greatly influence the economy of the United State of America.

Fed uses Federal open market committee to make decision on the flow rate of the money to the market. Federal Reserve can either increase the money flow rate by purchasing securities from the banks which are done by adding credit to banks’ reserves, this forces the banks to keep these excess funds to their reserves or even loan it to other bank resulting to more money in the banking system.

These money end up in the public hands due to loans offered by banks at a low interest rate resulting to high purchasing rate hence stimulating the economy.

Federal Reserve can also decide to decrease the money flow rate by selling their securities resulting to reduction of money in the bank reserves (White 327). Unfortunately, this leads to low consumers spending rate since there will be reduction of the loans issued by the banks with high interest rate attached to them and this slows down the economy. At this particular time people tend to spend less and consider short term planning over long term planning.

Federal Reserve also controls the money through the reserve requirement. Reserve requirement is the amount of money that a bank has to have in its reserve either as interest bearing or non interest bearing to enable it to serve its customers efficiently. This has enabled the banks to cub the problem of not being able sustain its customers’ withdrawal due to lack of funds. The reserve required will always vary as per the banks account totals.

The amount set as reserve greatly influence the amount of money possessed by the banks hence having an impact on the amount being loaned. Taking for the example, if the reserve percentage is lowered, the banks tend to have a lot of money to loan hence increasing the amount of the money in the market and in contrast to when the requirement is raised, as the banks tend to have low cash hence reducing the amount money to be loaned resulting to low money flow rate.

Incase the banks reserve goes below the required level, the affected bank can decide either to borrow some loan from the Reserve bank or any other bank. This is another way in which Federal Reserve policies affect the economy as money loaned to the banks has got interest rate attached them. The federal reserves usually advices the banks against going for loan unless for emergency reasons.

Discount rate identifies the changes in the monetary policy as high discount rate shows that there are tight policies while low interest rate shows loose monetary policies in place. If the interest rate is high, the banks too attaches high interest to loans given to its customers and if there is low interest on the federal reserves loans, so happens to loans given to the public. The federal funds rate affect the economy as it varies depending on the supply and demand of the reserves.

Federal Reserve comes up with rule that governs the financial sector of the government .These rules are set up at the head quarter by the Board of Governors and directives given to the Regional Reserves that does the implementation and supervision of all the banks within their jurisdiction (White 330).

The Fed ensures the general public interests are taken into account especially whenever some banks express their interest of merging. They ensure that any step taken by these banks do not have negative impact on the local public hence it act as financial institutions regulator.

The Federal Reserves is the bank to banks (Sue 57).The Regional Reserves ensure that there is continuous flow of the services and transactions required by their regional banks. Some of the services offered are the money banking for the banks, check processing and clearing, bank loaning, electronic money transfer and many others. Most of these services are usually offered at a few or at interest rate which is a major source of Fed and government revenue.

Federal Reserve is the bank of the united state of American government. It is in charge of the government treasury and it does a lot of government businesses and transactions on the behalf the government.

Works Cited

Colin, Barr. “The Fed’s stuck in the penalty box” Retrieved from CNNmoney.com/Fortune, on March 3, 2010, 11:38 AM ET. Web.

Epstein, Gerald, and Thomas, Ferguson. “Monetary Policy, Loan Liquidation and Industrial Conflict: Federal Reserve System Open Market Operations in 1932.” Journal of Economic History .New York: New York Times,2002. 30-50. Print.

Flaherty, Edward. “A brief history of central bank of United State of America. ” 23-124. University of Groningen, Netherlands,1997.Print.

Patrick, Chari. “Modern Macroeconomics in Practice: How Theory Is Shaping Monetary Policy.” 12-456, Minneapolis: Federal Reserve Bank of Minneapolis, 2006. Print.

Sue, Patrick Garland, Reform of the Federal Reserve System in the Early 1930’s: The Politics of Money and Banking. New York: New York Times, 1993. 24- 167.Print.

White, Lawrence. “The Federal Reserve System’s Influence on Research in Monetary Economics.” 325-354, Chicago: University Press, 2005.Print.

Wueschner, Silvano . Charting Twentieth-Century Monetary Policy: Herbert Hoover and Benjamin Strong, 1917-1927. Westport: Greenwood Press, 1999. 56-87. Print.

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IvyPanda. (2019, February 20). Federal Reserve and its role in the economy. Retrieved from https://ivypanda.com/essays/federal-reserve-and-its-role-in-the-economy/

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"Federal Reserve and its role in the economy." IvyPanda, 20 Feb. 2019, ivypanda.com/essays/federal-reserve-and-its-role-in-the-economy/.

1. IvyPanda. "Federal Reserve and its role in the economy." February 20, 2019. https://ivypanda.com/essays/federal-reserve-and-its-role-in-the-economy/.


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IvyPanda. "Federal Reserve and its role in the economy." February 20, 2019. https://ivypanda.com/essays/federal-reserve-and-its-role-in-the-economy/.

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IvyPanda. 2019. "Federal Reserve and its role in the economy." February 20, 2019. https://ivypanda.com/essays/federal-reserve-and-its-role-in-the-economy/.

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IvyPanda. (2019) 'Federal Reserve and its role in the economy'. 20 February.

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